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Seven equity income insights from record breaking Q3

Capita's quarterly dividend monitor reported an 'exciting' period for equity income, but how long can the good times roll?

Capita: equity income insight from a record breaking Q3

UK Plcs paid out £28.5 billion in Q3, 14.3% higher than the same period of 2016 and a nominal record for the period, and the third highest ever, according to data from Capita Asset Services.

While that was inflated by a 40% climb in special dividends to £1.5 billion, regular scheduled payouts climbed 13.2% to £27 billion.  That left the headline yield target for UK equity at 3.7% - unchanged, but still the most appealing figure among the major asset classes.

So what lies ahead for UK equity income?

Capita: equity income insight from a record breaking Q3

UK Plcs paid out £28.5 billion in Q3, 14.3% higher than the same period of 2016 and a nominal record for the period, and the third highest ever, according to data from Capita Asset Services.

While that was inflated by a 40% climb in special dividends to £1.5 billion, regular scheduled payouts climbed 13.2% to £27 billion.  That left the headline yield target for UK equity at 3.7% - unchanged, but still the most appealing figure among the major asset classes.

So what lies ahead for UK equity income?

‘Exciting’ times

Capita said that 2017 was shaping up to be an ‘exciting’ period for UK equity income. The strength of Q3 defied earlier expectations of a slowdown, largely thanks to specials and a mining bonanza.

The house upgraded its full-year forecast to a full-year total of £94 billion, 11% or £3 billion higher than the prior year, with the underlying figure also up 11.1% to £87.3 billion.

Fading FX  

While the boost of sterling’s devaluation, which had flattered prior periods was fading in Q3, 2016’s big move lower in sterling will still contribute a significant chunk of this year’s gains. Ex-currency, a 2017 full year forecast appreciation of 11% would fall to 8.5%

‘2018 likely to see slower growth than 2017, and without the added excitement of big FX gains, said Capita.

Sterling’s fall versus the US dollar was largely factored in by Q4 2016. While it has further weakened versus the euro, just £1 in every £50 paid out in dividends is originally denominated in euros, versus a £1 in every £3 originated in US dollars.

Mid Cap mania

FTSE 250 stocks outpulled their FTSE 100 peers over the three months, lifting their payouts 14.5% versus 12.2%.

Excluding specials mid-caps performed even more strongly, up 27.7%. Half of that was contributed by a resumption in dividend payments by Russian steelmaker Evraz, while the FTSE 100 contribution was negatively impacted by the demotion of Royal Mail from the senior index.

Nonetheless almost three quarters of mid caps upped their payouts year-on-year.

Manic Miners

Much of the dramatic strength in UK dividends over Q3 was attributable to an escalating recovery mining sector, following the crash of 2014/15 and subsequent period of balance sheet restructuring.

Payouts by Rio Tinto, BHP Billiton and others quadrupled over the 12 months to £3.3 billion. While the sector appears unlikely to approach its 2013 peak, when it contributed 10% of all UK equity income, a broad shift toward fixed, stable payout ratios has put the sector on a steadier footing.

Rolls Royce reinstated its dividends to place it among the top half of contributors while payout from the oil, pharma, and utilities sectors were broadly flat year-on-year.

Yield cos

The strength of the mid-caps lifted their year-end yield figure – excluding any special dividend surprises – to 2.7%, while the FTSE 100 forecast was unchanged at a full-year target of 3.8%.

‘Equities remained comfortably the most attractive of the main asset classes for income, as they have for several years now,’ said Capita.

‘The UK 10 year gilt yield rose a touch over the quarter, reaching 1.4%, while instant access savings and residential property (after running costs) were unchanged at 1.3% and 2.9% respectively.’

The year ahead

Investors should not get too complacent about 2018 however. ‘We are optimistic that growth will continue for both the midcaps and the top 100, though likely at a more modest rate as payouts begin to encounter the higher base set late last year,’ said Capita.

It added that a confluence of one-off events had flattered the last year, with special dividends already having eclipsed their 2016 payout rate, on track to finish the year at £6.5 billion, or the second highest figure on record.

A colder wind may arrive before the year is out, it cautioned. ‘With the US dollar markedly weaker of late against the pound and other currencies, investors will see an exchange rate loss in the fourth quarter for the first time in three years, as dollar dividends are translated to pounds at less favourable exchange rates than in the same period in 2016.

‘This loss will be larger than we originally expected if current exchange rates persist at roughly their current levels until the end of December, and will largely cancel out growth at the company level in Q4.’

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