Dividends should be seen not just as a source of income for investors, but as a way of judging the strength and quality of a business, says Sonja Schemmann, a fund manager at Schroders.
Schemmann runs the groups 34m Global Equity Income fund. Speaking at the Schroders annual investment conference in Edinburgh last week, the manager said: High yielding stocks are offering more than just the income. If companies can pay a dividend without compromising quality of earnings and their balance sheet, they will be the winners. Dividend is a quality indicator. It might be boring at times, but if boring pays me a 4% to 5% dividend yield per annum then it is not a bad place to be.
Schemmann said there are both long-term structural reasons and short-term tactical indicators that support the attractions of equity income as an asset class. However, she she urged investors to look outside the shrinking British market for dividends.
Britain is a very traditional equity income market and investors would do well to take a global view, especially as demand for income-generating stocks remains high. There has been unprecedented wealth destruction so people are seeking greater income, she said.
Just 10 companies now account for 65% of the FTSE 100s forecast dividend payout for the coming financial year, none of which are domestic banks, Schemmann said.
As the universe of income generating stocks decreases in size, it makes more sense to look further afield for dividends. A lot of money is chasing just these ten names, but there is a lot of income outside the UK market. Asia is one area in which we expect dividends to pick up earlier than in Europe, the US and the UK, she said.
Schemmann said equity income will outperform fixed income in terms of yields in the coming months. Once corporate bonds have worked and you see spreads narrowing and coming in, you need to look at equity income as a follow on because the dividend yield is higher, you have long-term price appreciation potential, and a superior income stream.
If you believe in the corporate bond story you have to believe in the equity income story. Cash is not a long-term viable option for wealth creation, but there is a lot of money parked on cash deposits. Equity income should take over as the entry point back into the stock market, she said.
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