The importance of dividends (and where to find them)

When you think of the ASX, dividends, miners and banks are likely some of the first words that come to mind. And who could blame you - the stats back this up:

• 50.1% of the ASX200 are linked to Financials or Materials/Mining companies. (Market Index)
• Australian dividends reached a new record in 2021 of $63.3bn, the third-largest total in the world after the US and UK. (Janus Henderson)
  
• The Australian market's current dividend yield of 4.8% is double the global average (First Links) 

In fact, dividends are a key driver for Australia's position as the highest returning stock market in the world over the past 120 years. These stable distribution payments are only becoming more important as market uncertainty drives unprecedented price volatility and risk. 

Accordingly, I reached out to Jane Shoemake from Janus Henderson and Dr Don Hamson from Plato Investment Management to discuss:

• The sectors outside of banking and mining that have big dividend prospects;
• Their pick for an exciting dividend grower; and
• The importance of dividends in a world where capital returns are becoming more unstable

New opportunities in energy and consumer sectors

Dr Don Hamson

Managing Director

Plato Investment Management

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Our dividend rotation strategy means we’re quite nimble and often move in and out of companies and sectors that we think can deliver our clients the strongest income. If we had to pick two sectors that we think investors should pay attention to at the moment, we’d say the Energy and Consumer Discretionary sectors look compelling over the short to medium term.

The Energy sector is a great example of how dividend winners and loser can change over time. Dividends from the sector haven’t been strong over the past few years, but so far in 2022 it’s been one of the strongest performing sectors as the world has moved away from lockdowns and supply shortages grip many parts of the world. Growing profit margins and shrinking debt in the sector bodes well for dividends and it’s encouraging to see many traditional energy stocks transitioning to a greener future.

The Consumer Discretionary sector is one that has delivered exceptional dividends in recent years, particularly on the back of pandemic-induced demand. We think the strong performance of many of the best consumer-discretionary stocks with pricing power can continue. What is also encouraging is that the pandemic forced many retailers to accelerate the development of their digital platforms, which can now help to drive revenue growth. 

As for a particular stock, Macquarie Group is a company we’re particularly positive on right now from an income and total returns perspective, and we’re overweight the stock in our Plato Australian Shares Income Fund.

It has delivered consistent earnings growth and consistent dividends in recent years despite a myriad of challenges. Most recently, management told the market it had achieved a record profit for the December 2021 quarter.

We’re impressed by the diversified Group’s markets facing business, strong AUM growth and investment in renewables, while its commodities trading business has been benefitting from volatility in commodities markets.

Importantly it has plenty of cash on its balance sheet, giving us confidence in the sustainability of dividend growth over the next couple of years. 

How important are dividends?

As income investors, we are always focused on total return, not just income. However, it is important to recognise the relevance of the dividend component in investor total return.

Dividend yields, at the index level have remain a consistent source of total return over many years. The chart below shows the gross yield, in red, and the price return, in blue, for the MSCI World ex Australia index over the last 15 years.  

As you can see income has been a consistent source of return, irrespective of the direction of the overall market. This chart only focuses on index yield, if you substituted the distributed income levels from our actively managed income funds (circa 6% global & 9% domestic) you can see how significant income generated from active management has been for clients in both exuberant and challenging periods for global markets.

Tech is the best play to ride dividend growth

Jane Shoemake

Portfolio Manager

Janus Henderson

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Globally, there are some attractive yields on offer in the health care, consumer staples, utility, and telecommunication sectors amongst others. However, we believe it is important not to consider just the yield, but also the potential for a company to sustain and grow its dividend. Some lower-yielding stocks, such as those in the technology sector, for example, offer very attractive dividend growth characteristics. Microsoft is a good example: the stock currently yields 0.8%, but the company has consistently grown its dividend by 10% per annum for many years now. 

Since JHGDI launched at the end of 2009, the technology sector has shown the highest level of dividend growth. Some of the stocks in this sector continue to generate significant free cash flow, which is enabling them to continue to invest in their business, but also return capital to shareholders, either via dividends, share buybacks or both. 

Again, I will say Microsoft for its impressive dividend growth track record, and this is forecast to continue over the next few years.

How important are dividends?

Over the long-term dividends have always been an important element of the total return an investor can expect to generate. Several long-term studies show that returns where dividends have been reinvested significantly exceed those where they have not. In an environment where capital growth may be more challenging, receiving a regular income from dividends could be increasingly important.

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