Building
a resilient portfolio

An uncertain outlook for financial markets and the global economy is shining the spotlight on dividends as the most stable component of total returns from equities.

The source of those dividends matters too. A cautiously-managed, unconstrained global equity income fund has the ability to avoid the parts of the market that pose the greatest threat to dividend distributions.

Dan Roberts, portfolio manager of the Fidelity Global Dividend Fund, invests in resilient businesses with an emphasis on long-term income growth and capital preservation. Defensive and well diversified, the fund tends to hold up well in more volatile conditions, as well as aiming to deliver cross-cycle outperformance. With a focus on high quality, growing dividend streams, it is also designed to protect against rising inflation.

Roberts is able to back the strongest income-paying opportunities regardless of where they are located across developed and emerging markets. He recognises the late-cycle environment makes growth prospects for dividends more muted overall, but points to notable differences across regions.

‘In geographies like the US and Japan, payout ratios are very low so the risk to dividends, I would argue, is low. In the US, more capital is currently allocated to share buybacks than dividends – so it will be the buybacks that get suspended before we can talk of a threat to the dividends,’ he said. ‘In Japan, dividend payout ratios are even lower than the US and Japanese corporates have the additional protection afforded by very strong balance sheets – over 50% of Japanese corporates currently have a net cash position.’

‘But in areas like Europe and the UK I think there’s much greater risk to dividend distributions, particularly in sectors or companies where balance sheets are stretched and they’re overdistributing – paying out more in dividends than they’re generating in cash. We’ve seen several dividend cuts from some quite high profile companies over the last 12 months and can probably expect a few more as we look forward.’

Roberts’ emphasis on the sustainability of dividends naturally leads him to prioritise quality characteristics when analysing his universe of 2,700 companies.

Chief among what he looks for in a potential investment is a simple and understandable business model, with a predictable and resilient earnings profile. The quality of the management team and their ability to allocate capital appropriately is also a key consideration.

‘Our quality bias is permanent not tactical – we believe it provides a significant advantage across a full market cycle,’ he said.

‘We like to invest in companies which have a high recurring element to their revenue base – consumables, subscription models or companies which provide a high service element to their offering. This gives us confidence that the cashflow they generate can support the dividend even if the broader economy is slowing,’ said Roberts, who has previous experience managing highly regarded equity income strategies for Aviva Investors and Gartmore.

Conversely, he has relatively small allocations to some traditional income-paying sectors such as telecoms and real estate where he deems the fundamentals unattractive. He also believes increased levels of corporate debt mean it is important to be selective in other defensive sectors, citing consumer staples companies such as Kraft Heinz, AB Inbev and British American Tobacco, as examples of companies where levels of debt look onerous. ‘Over the last decade a lot of debt has been taken on by traditional ‘defensives’ such as consumer staples. In some cases, this has compromised the investment case for us,’ he said.

The result is a portfolio that boasts a gross dividend yield of 3.3% – higher than the market without compromising on quality and sustainability.

‘We feel our strategy, which is focused on companies with earnings resilience, valuation support and strong balance sheets, yielding more than 3% with distributions growing by mid-single digits will serve investors well in a more volatile and uncertain environment,’ added Roberts.

frank talbot

Head of Investment Research, CITYWIRE

SECTOR OVERVIEW:
Mixed Asset

frank talbot

Head of Investment Research, CITYWIRE

Trying to outperform global equities in the post-credit crisis period has been the toughest job in fund management, with just over a tenth of managers achieving this. This has been even more true in Equity – Global Equity Income where high yielding companies have lagged the broad MSCI AC World index considerably. Yet Fidelity’s Dan Roberts has achieved just this. His decision to move from a UK Income mandate to a global equity mandate when he switched from Gartmore to Fidelity in 2012 raised a few eyebrows, yet he has managed to more than double the average manager’s return over his full tenure and crucially adding value over and above the MSCI AC World index.

Our total return rankings consider all individual portfolio managers active at the beginning of a period and those at the end, with an unlimited number of career breaks during which time the average manager performance is substituted.

To appear in our risk-adjusted analysis a portfolio manager must have been managing a fund for 5/6 of the time frame under review and be active at the end of the period.

How does Dan stack up with his competition around the world?

The Fidelity Global Dividend fund is managed to deliver an attractive dividend-based total return with an emphasis on capital preservation. I aim to do this by investing in high-quality companies that we believe possess the strength and resilience to sustainably grow their dividends across a range of economic scenarios.

The fund is truly unconstrained and constructed from a blank sheet of paper without reference to the benchmark index. This translates into a portfolio with a very high active share and relatively low turnover, which looks and behaves very differently to the broader market.

We think this approach – taking some high-conviction views and holding them for the long term – will give us the best chance of success in terms of delivering returns in excess of the market over a full cycle.

FUND MANAGER HOT-SEAT:
AN UNCONSTRAINED INCOME STRATEGY

TELL ME ABOUT YOUR INVESTMENT APPROACH. IN WHAT WAYS IS IT UNCONSTRAINED?

The Fidelity Global Dividend Fund is managed to deliver an attractive dividend-based total return with an emphasis on capital preservation. We aim to do this by investing in high-quality companies that we believe possess the strength and resilience to sustainably grow their dividends across a range of economic scenarios.

The fund is truly unconstrained – constructed from a blank sheet of paper without reference to the benchmark index. This translates into a portfolio with a very high active share and relatively low turnover, which looks and behaves very differently to the broader market.

We think this approach – taking high-conviction views and holding them for the long-term – will give us the best chance of success in terms of delivering returns in excess of the market over a
full cycle.

We value businesses by taking a forward-looking view of cross-cycle cash generation. We also spend a lot of time on the balance sheet – something a traditional PE multiple tells you nothing about.

While we place significant emphasis on the price we are being asked to pay for a stock, we also demand certain characteristics from companies – such as a strong balance sheet, predictable cashflows and management that recognise the importance of good capital allocation – to help provide clarity over a stock’s true value and the sustainability of its earnings and dividend.

This results in an overall portfolio that is cheaper than the market on a dividend yield and free cashflow yield basis. However, we would argue that the quality of the assets in the fund is higher than the market, with more resilient return profiles and lower levels of debt.

The idea is that we build our clients’ wealth by compounding returns over a long investment horizon. We will maximise this compounding effect by avoiding significant drawdowns (losses) over discrete periods.

WHAT’S THE APPEAL OF A GLOBAL EQUITY FUND FOR INCOME INVESTORS? WHY IS IT IMPORTANT TO DIVERSIFY DIVIDENDS – ESPECIALLY AWAY FROM THE UK?

A global remit is beneficial as it allows us to look across a large and diverse universe of stocks and invest wherever we find a company that fits our criteria. This also provides attractive diversification benefits. Many single country equity income funds often face a challenge in that a large proportion of the index’s yield is concentrated in a relatively small number of sectors or even individual companies. However, by investing globally, we can ensure the fund has exposure to a selection of the best ideas balanced across industries and geographies.

WHERE ARE YOU FINDING THE BEST OPPORTUNITIES?

We are finding opportunities across the market, but the fund’s positioning has a clear defensive tilt today. This is because we generally don’t see much valuation support in some of the more cyclical sectors if/when margins and cashflows normalise.

The largest stock in the fund today is German exchange group Deutsche Boerse, which has structural growth tailwinds but will also benefit from any uptick in market volatility and/or interest rates. We have positions in several consumer staples companies such as Procter & Gamble, Colgate and Diageo, healthcare companies such as Roche and publishing businesses such as Wolters Kluwer.

There are also pockets of cyclicality in the fund, such as Taiwan Semiconductor and recent addition Informa. Informa is the leading global events and exhibitions business. We bought it following a severe sell-off in the shares during Q4 2018.

WHAT HAS THE FUND’S PERFORMANCE BEEN LIKE? WHAT’S BEEN THE MAIN DRIVER OF THIS?

The fund’s long-term performance has been strong, despite a challenging backdrop for value-conscious income investors. We look at performance not only from the point of view of capital growth, but also our ability to limit drawdown in challenging markets and consistently grow our income distributions. These outcomes form the core of our proposition to clients.

We have delivered growth ahead of the market and peer group average since launch, while exhibiting lower volatility and continuous growth in income distributions. This has been achieved despite a stylistic underweight to two of the best performing parts of the market – US equities and technology companies.

Our performance has been driven primarily by good stock selection. We have identified companies such as Wolters Kluwer and Deutsche Boerse that have delivered growth despite an initially sceptical market view, which allowed us to buy these great companies at attractive valuations. A key factor to our success has also been our ability to navigate risk and avoid some of the worst performing stocks in the market.

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