Charles Luke, Manager of Murray Income Trust
It may have felt choppy to investors, but the reorientation of markets since the start of the year is a welcome development. Rather than the pursuit of growth at all costs, investors are starting to re-evaluate companies on more rational metrics. In this environment, the value of dividends as a share of long-term returns may be better appreciated.
Dividends have historically been an important part of overall returns from stock markets, particularly in the UK. An investment in the FTSE 100 would have grown by around 6.3% from 2003 to 2023. With an average dividend yield of 3.5%, dividends have formed over half of the total return.
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Dividends also serve an important functional purpose. The commitment to paying dividends can impose a good capital discipline on companies, making them think harder about the way they spend and invest. In this way, dividends can be a means to stronger share price returns.
However, their importance as a part of overall return had got lost in the vogue for AI-focused capital returns. Investors have pursued the outsized gains in the US technology sector at the expense of the steadier returns from dividend paying companies.
This trend has had its advantages for dividend-focused trusts such as Murray Income Trust. It brought valuations down to very attractive levels, particularly in the unloved UK market. We have been able to access global growth opportunities through UK companies at lower valuations. However, it was ripe for a reappraisal and the shift in investor sentiment since the start of the year is welcome.
The state of UK equity income
The UK equity income asset class looks as healthy as it has been for some time. Modest payout ratios provide a strong base for dividend growth, while low valuations are also encouraging companies to buy back their shares. The UK market is leading other major markets in ‘all-in’ yield, which combines dividends and buybacks.
Private equity and trade buyers recognise the opportunity, and the UK market has seen significant merger and acquisition activity. The value of deals in the UK rose by 37% in 2024, led by the financial services, technology, media and telecoms and services sectors. They recognise that they can buy global growth companies at UK prices and with world-class standards of corporate governance.
That said, the relative volatility seen since the start of the year is a function of a more complex environment and the UK cannot be immune. Although the recent Spring Statement shored up the UK’s finances and kept bond markets on side, growth remains elusive and global factors could still weigh on companies, particularly the unpredictable tariff regime in the US.
The lower valuation of UK equities provides some cushion, as does the yield. Investors know they are reliably getting back a share of their initial investment each year. However, this is not enough to build a robust income portfolio. High dividends can be a sign that the market anticipates weakness. We believe it is important to blend income criteria with quality criteria to ensure the resilience of income over time.
Sustainable dividends
We recognise that investors rely on the income that we provide, and that income needs to grow over time to keep pace with inflation. Our current yield is over 4%. Murray Income also has 51 consecutive years of dividend growth and we are committed to maintaining that track record.
This does not happen by accident. We target high quality, resilient companies with strong investment prospects. Our view is that the market often systematically underestimates the sustainability of returns from high quality companies. These companies tend to have fewer tail risks and a greater margin of safety. They produce less volatile earnings, and earnings are more resilient and sustainable. This puts them in a far better position to deliver dividends to investors and grow them over time.
The companies in our portfolio are aligned with a range of long-term growth themes: ageing populations for companies such as AstraZeneca, digital transformation for companies such as Sage. For the energy transition, we hold Air Liquide and SSE, while L’Oreal or LVMH are linked to emerging global wealth. This alignment also contributes to earnings and dividend resilience over time.
Thoughtful diversification is also important. History suggests that being excessively reliant on income from a single sector is a bad strategy. Being over-exposed to a single risk factor, such as interest rates or the oil price also creates vulnerability.
New ideas, steadier prospects
In spite of Murray Income’s high starting yield, we are confidence that it can keep growing. We continue to find new ideas. Dunelm, for example, is the UK’s leading home furnishings retailer. The company has a strong market position and it continues to build market share through new stores and formats. It also has a strong online proposition that provides a competitive advantage. It has a robust balance sheet and strong cash generation, which has helped it sustain its payouts to investors.
London Metric Property is another recent acquisition. It has exposure to the logistics sector, an area with limited net supply and strong rental growth. It has an attractive dividend yield and is trading on a relatively low valuation. We also like the entrepreneurial management team.
We believe a shift in focus away from the US technology giants may see investors reappraise the value on offer in dividend strategies and in the UK in particular. The sector should provide steadier prospects in an increasingly uncertain world.
Important information
Risk factors you should consider prior to investing:
- The value of investments and the income from them can fall and investors may get back less than the amount invested.
- Past performance is not a guide to future results.
Other important information:
Issued by abrdn Fund Managers Limited, registered in England and Wales (740118) at 280 Bishopsgate, London EC2M 4AG, authorised and regulated by the Financial Conduct Authority in the UK.
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