UK Dividends: A £25bn recovery, but concentration remains

In much the same way that withdrawing cash from your bank account and putting it in your wallet doesn’t make you richer, dividend irrelevance theory contests that a company that chooses to pay out a dividend shouldn’t impact investor wealth. However, for some investors, the old adage of “a bird in the hand is worth two in the bush” appeals and such investors tend to favour companies that pay a regular dividend (let’s face it who doesn’t like money in their back pocket)  - this characteristic is seen to be even more desirable in a low interest rate world.

Those who rely on dividends will be cheering the latest UK Dividend Monitor report published by Link Group. Dividends distributed by UK companies climbed 51.2% to reach £25.7bn in the second quarter of this year (compared with the same quarter in 2020). This sharp increase was mostly driven by companies restarting dividend programmes after last year’s hiatus in the middle of the pandemic. In fact, 90% of the increase was from companies that cancelled dividends in Q2 2020.

The source of dividends in the UK stock market however remains concentrated. Just two industries, Mining and Banking, account for around 38% of the dividends paid in Q2 21 with over 50% coming from just five companies, see Table 1.

It’s no surprise that investors who require an income, such as pensioners, have relied more on share dividends over the past decade or so – the yield on the Bloomberg Global Agg, a global bond index, has fallen from 4.2% p.a. in 2007 to just 0.8% p.a. in 2020. This has clearly required investors to accept an increased level of risk as they move from bonds into stocks.

It’s also worth noting that the two key sources of UK dividends i.e. Mining and Banking sectors either have, or are likely to, face considerable regulatory scrutiny and there are risks associated with this e.g. Mining faces the challenges of climate change regulation and last year the Prudential Regulation Authority temporarily prohibited banks from paying dividends. If investors were wholly reliant on UK stocks for income then they could easily have found themselves in the past year, and perhaps in the future, being forced to sell assets to meet income requirements precisely when asset prices are depressed.

But the bigger question is ‘who’s looking out for employees’ and monitoring their retirement savings, performance and providers’ service on an ongoing basis? Are employers getting the best “bang for their buck” in a marketplace for defined contribution pension schemes that continues to develop?

The challenges of unpredictable dividend streams and concentration risk associated with the higher dividend paying UK sectors means that we favour a total return approach to investing, which helps investors meet their income and return needs through a combination of capital appreciation and income generated from a wide variety of sources.

For example, alternative credit assets such as high yield and emerging market debt still provide good levels of income and overseas equities provide important diversification to the UK market, whereas total UK dividends fell 43% in 2020 compared with the previous year, other equity regions fared better. 

Dividends paid by US companies actually grew slightly in 2020. This total return approach means model portfolios can be aligned to Advisors' risk targets and at the same time helping underlying investors get greater predictability of their future outcomes. 

If you have any questions regarding this please contact me.