Every now and then, this old fundamentalist spots something that makes him put down his early morning coffee cup and rub his eyes to make sure he’s really awake. Last week was just such an occasion. But, on reflection, maybe I should have taken another slurp?
What made the whole thing more embarrassing was that I really should have spotted it several weeks earlier. Right back in July, when the world was on holiday, the Share Centre had produced a research report which claimed that dividend cover among FTSE-350 companies had dropped to just 0.8 during the first quarter of 2017 – the fifth successive quarter when payouts had exceeded post-tax profits, and a full 18% shift since the same period of 2016, when the ratio had been 0.97.
Now, most of us have got used to the idea that a healthy dividend cover is closer to 2.0, if not 2.5, because if a company is paying out its entire post-tax income to its investors then it won’t have much cash left for investing, never mind for fending off any financial tight spots that might come along. My mood was not exactly improved by discovering that, according the same report, FTSE 350 profits had shrunk by 7.6% during 2016, to £67.3bn, at the same time as dividends on those self-same companies had swelled by 7.1% to £81.1bn. And mid-caps had fared even worse – a 16% drop in net profits had been rewarded with a 3% dividend increase, resulting in a div cover of 1.2.
Help! Sound the alarm! We’re selling down our children’s futures for the sake of keeping our income investors onside! This can’t go on! What a good job, then, that it doesn’t need to.
If there was ever a time when externalities took charge of UK plc, it’s been during the last 15 months when the international weakness of sterling has been kicking the statistics mercilessly in the aftermath of the Brexit vote. Sure enough, it turns out that the oil and gas companies that funnel foreign earnings through the London market have been barrelling along at five times earnings – in sterling terms, at least – while miners are delivering ten times profits. And by the time you’ve added in the financial institutions, which are having to splurge more on sterling payouts to keep their foreign investors sweet, you’ve more or less accounted for the distortion.
So what about the future? Things are looking better, says Capita Asset Services, because many of those short-term distorting factors are now fading away. The dollar is dropping, UK profitability is increasing, and we should have seen the last of a £4.6 bn series of hefty one-off dividend payments – including some from Lloyds Bank and from National Grid, which was returning a huge windfall gain from an asset sell-off to its investors.
That, and the fact that we are now past the twelve-month anniversary of sterling’s decline, ought to keep the div cover level moving back up toward sanity. Here’s hoping.
This month’s supplement on Asia, created in association with Fidelity International, is a timely reminder that it isn’t all about what’s happening in Britain, or in the United States, or even in the EU. The newspapers’ recent fixation on Brussels and Washington has distracted the general attention from a region whose economy is still growing at almost double the rate of the Western world. And whose dominant player, China, is not just the world’s biggest economy but also the biggest stakeholder in the US bondholder stakes. (Having overtaken Japan in June.)
At the same time, stock market valuations in Asia are now at much more affordable levels than ten or fifteen years ago. We are, in short, approaching a tipping point for investors which underscores the argument for considering Asian funds in a medium or long-term portfolio. There is plenty of food for thought here.
Mike Wilson, Editor in Chief