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Dividend hunter Message bets big on banks

Dividend hunter Message bets big on banks

Stephen Message, manager of the 4.7% yielding Legal & General UK Equity Income fund, is betting big on banks and insurers ahead of what he believes will prove a 'new era' for the UK stock market.

Message has been snapping up shares in financial sector stocks in recent months, with nearly a third of his £276.1 million fund now held in the sector, up from just under a quarter last summer.

He has positioned his fund to benefit from a further bonds sell-off, a feature of markets so far this year which has sparked a jump in stock market volatility.

Yields on government bonds, which move in the opposite direction to prices, have spiked on fears of resurgent inflation, and the likelihood of central banks responding by raising interest rates. These are bad for bonds, as they eat into the value of their future coupons.

Despite the recent sell-off, which has seen the yield on 10-year treasuries approach the 3% mark, Message believes a ramp-up in inflation is still 'underpriced' by investors, as global growth appears 'increasingly synchronised'.

'Taken together, these factors imply long-end bond yields may rise further, in a boon to financial stocks such as banks, which tend to borrow in short-term markets and lend in long-term ones,' he said.

'Insurance companies, which are forced to load up on these types of bonds, are also likely to benefit. It is for this reason that we favour an overweight position in financials.

Included in Message's top 10 holdings are HSBC (HSBA) and Lloyds (LLOY), although the financial stocks representing his biggest 'overweights', where he holds more than the market weighting, are insurers Phoenix (PHNX) and Direct Line (DLGD).

What's bad news for bonds is likely to prove bad news for utilities too, given their high levels of borrowing, and Message doesn't hold any in his fund.

'Our view on utility stocks is reinforced by a darkening regulatory and political outlook for the sector,' he said.

Change in stock market leadership

Message (pictured) argued the clouds surrounding 'bond proxies', also including consumer staples companies, were one sign of a change in UK stock market leadership. The other is the pound's rally from post-Brexit vote lows.

'The UK equity market has recently danced to a beat set by two types of stock: so-called "bond proxies" and "dollar earners",' he said.

'We believe this rhythm is set to be drowned out by a very different sound - and are positioning accordingly.'

With the pound having rallied from lows of $1.18 against the dollar in October last year to over $1.38 today, a tailwind for UK-listed overseas earners had become a headwind, favouring stocks with exposure to the UK domestic economy, he said.

Echoing the views of income investing heavyweight Neil Woodford, Message argued UK domestic-focused stocks were looking cheap, amid investor fears over the impact of the UK's exit from the European Union.

'We certainly know no more than any other keen observer of the tortuous negotiations as to what the UK-EU relationship will look like in five or 10 years from now,' he said.

'But we do believe that the equity market may be factoring in more bad news for UK-orientated retail, leisure and media stocks over Brexit than the currency market is for sterling – whose recent resilience is likely to benefit importers.'

Message has run the Legal & General UK Equity Income fund since October last year, after he joined the group from rival fund group Old Mutual Asset Management.

Over that period the fund has lost 3.7%, a mid-ranking performance in the Investment Association's UK Equity Income sector. In nine years at the helm of the Old Mutual UK Equity Income fund, he delivered 98%, placing the fund just outside the top quarter of the sector.

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