Dividends are dead. Long live dividends!

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Covid-19 could not kill off dividends with gross equity income seemingly still in rude health when compared with fixed income and cash products. A recent Plato Digital Luncheon saw Dr Don Hamson make a case for franking credits and special dividends despite market volatility and a mixed results season for dividends in August/September. He stressed the importance of active management and avoiding dividend traps.

“All asset classes are delivering lower income, whether it be cash, bonds, credit and even rental income is down. Equity income is down but, on a relative basis, we think it still looks very attractive,” said Hamson.

And while there was a 30% cut in dividends across all stocks in the last quarter of company reporting, 20% of stocks increased their dividend. This mixed result points to the disparate effect Covid has had on various sectors and underscores Hamson’s call for deep sector analysis and active management.

“In this current environment … the case for active management is strong. The old days of buying and holding the banks to get income is not going to work and you have to be active,” said Hamson.

The Plato Australian Shares Income Fund has generated gross income of 9.4% per annum since inception with the inclusion of franking credits and special dividends and Hamson has targeted 7% in the next 12 months.  

Avoiding dividend traps

However, this strategy only works if the manager can avoid dividend traps — stocks likely to underperform and cut their dividend — and there has been no shortage of examples in 2020. Hamson cited AMP and Scentre Group as good examples of dividend traps this year.

While 56% of ASX100 companies beat earnings expectations in the last quarter, 57% upgraded company earnings forecasts. 19 companies had positive dividend or capital management surprises against 13 which disappointed. Hamson noted strong dividend increases by JB Hi Fi, Wesfarmers, Evolution, Northern Star, Fortescue, Mineral Resources, Aurizon, NRW Holdings, Magellan and Steadfast Group.

The point is neatly made when considering the mixed outlook for the biggest 20 dividend payers:

The largest positive contributors to the Plato Australian Shares Income Fund during September were overweight positions in Harvey Norman and Sonic Healthcare as well as underweight positions in Afterpay Touch and A2 Milk. However, overweight positions in QBE Insurance and St Barbara underperformed and underweight positions in Transurban and James Hardie detracted from relative performance.

The manager’s five best contributions to active performance over the last financial year were overweight in Fortescue, Wesfarmers, Macquarie and Woolworths as well as an underweight position in Scentre.

“The last six months in particular was a period where avoiding the dividend traps was especially important as there were particular industries such as banking, retail property trusts, travel and energy stocks that underperformed significantly,” said Plato in its annual report. “In contrast, certain sectors such as the large gold and iron ore miners and well as consumer staples were largely unharmed by the economic environment.”

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