10 tips to invest in equities for income as dividends return?

Early signs of recovery in the housing market today helped property minnow St Modwen to  follow oil giant BP’s lead of last week by restoring its dividend for the first time since November, 2007. These income payments to shareholders have delivered nearly half the total returns from equities over the last 20 years. But, as BP and St Modwen demonstrated, dividends can be cancelled without warning. Here are 10 tips from the experts on how to invest in equities for income:

1: Avoid financial fashion. Neil Woodford, head of investment at Invesco Perpetual, said: “I look to invest in businesses that can provide sustainable long-term dividend growth. If I can invest in a businesses when its growth potential is not reflected in the valuation of its shares, this not only reduces the risk of losing money, it increases the upside opportunity.

2: Don’t be greedy. Anthony Nutt of Jupiter Asset Management said: “Beware high yielding shares – those yielding twice as much as the FTSE 100 –  and those where the dividend has remained flat for several years; especially when the company has a high level of debt.”

3: Consider international diversification. Stuart Rhodes, manager of theM&G Global Dividend Fund, said: “Within the UK, five companies account for 40 per cent of UK dividend payouts and only five companies have delivered 25 years of consecutive dividend increases. But in the US, nearly 100 companies can boast that longevity of dividend growth.”

4: Have patience. Carl Stick, manager of the Rathbones Income fund said: “For  investors requiring income in retirement and not flash-in-the-pan short-term gain, it’s all about the compounding of returns for the long term. As a rule, those businesses best-placed to offer this demonstrate consistent returns on invested capital, and visible earnings streams. These include the likes of Diageo, British American Tobacco and Unilever.”

5: Seek reliability. Michael Clark, manager of Fidelity’s Income Plus Fund, explained: “Some sectors of the equity market do not depend on strong economic growth to deliver attractive returns to investors. For example, pharmaceutical shares sell for less than 10 times earnings, with dividend yields close to 5 per cent. Pharmaceutical sales are much less dependent on economic growth, and enjoy an expanding market as the population ages in developed areas of the world, and as standards of living and medical care improve in emerging markets.”

6: Read the report and accounts. Mr Nutt said: “Look for companies with a high and growing free cash flow – that is, money left over after all capital expenditure- as this is the stream out of which rising dividends are paid. The larger the free cash flow relative to the dividend payout the better.”

7: Ignore volatility. Mr Woodford said: “In the short-term, share prices are buffetted by all sorts of influences, but over longer-time periods fundamentals shine through. Dividend growth is the key determinant of long-term share price movements, the rest is sentiment.”

8: Reasons to be fearful: Mr Nutt said: “Remember that the profits and dividends of utility companies are at the whim of the regulator. Beware of  companies that pay a high dividend because they have gone ex-growth. Such a position is not sustainable indefinitely.”

9: Spread risk. Often said to be the first rule of investment, diversification to diminish risk is particularly important for income-seekers who cannot afford to lose capital.

10: Don’t forget tax shelters. Most people can boost returns by a quarter by investing through an individual savings account (ISA), which can deliver tax-free income, or a pension, where contributions attract initial tax relief. There is no need to take any risks with either option; you can hold cash deposits in both.

Source: telegraph.co.uk

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