Dividends have been a key to the UK investment case for a long time. It’s home to a lot of world-class companies, big and small, selling their goods and services around the globe.
Investing in a dividend-paying company can mean your income and capital grow as the company grows. For investors, you can see the benefits when dividends land in your investment account.
For some, the expectation of a dividend beats investing for growth and not knowing how an investment might perform. Though dividends are variable and never guaranteed.
This article isn’t personal advice. If you’re not sure an investment is right for you, seek advice. Investments and any income from them will rise and fall in value, so you could get back less than you invest. Past performance is not a guide to the future. You should also make sure any investments you own are held as part of a diversified portfolio.
Does the UK have healthy yields?
At the time of writing, there’s potential to generate a good income from investing across the UK market.
The FTSE All Share index, the broadest representation of the UK market covering 572 companies, is yielding a reasonable 3.80%.
This is because of some large, mature companies which can justifiably be thought of as dividend heavyweights. So, it’s not a surprise that the FTSE 100 index, representing the largest 100 companies listed in the UK, has a slightly higher yield than the All Share, at 3.86%.
The 10 biggest dividend-payers in this index are expected to be responsible for about 55% of its total dividends. So there is some concentration risk here. Remember, diversification is key to a portfolio.
Biggest companies aside, there’s still a good income opportunity for investors among medium-sized and smaller companies. The FTSE 250 index, representing medium-sized companies, offers a decent yield of 3.40%, and the FTSE Small Cap index yields 3.93%.
These companies which can be at an earlier stage of their development can offer an exciting mix of growth potential and income to investors. Although they are also higher risk than their larger counterparts.
What are interest rates doing to markets?
The focus on the Bank of England’s (BoE) monetary policy probably won’t change any time soon with markets still estimating when interest rates might fall from the current 5.25%.
Rates aren’t expected to rise much higher, but with inflation still above its 2% target, it might be well into the second half of 2024 before we start to see any cuts to the base interest rates.
What does this backdrop mean for the UK market? We asked an expert fund manager for his view.
"The UK market is currently very attractively valued, both in comparison to other markets and its own history, and this, alongside lower inflation and likely interest rate cuts should be supportive as we look forward. With around 75% of earnings generated overseas, it is possible to access globally leading businesses trading at a significant valuation discount to their international peers. Even for those domestically exposed companies, we expect the UK economy to be more resilient than the gloomy forecasts suggest given the prospects for real wage growth. Balance sheets are also strong and companies are generating good free cash flow, which is supportive of future dividend growth.The UK market offers the prospect of dividend growth over time, important in an environment of more normalised inflation and interest rates. This dividend growth combined with low valuations provides investors with an attractive return proposition."
Andrew Jones, Fund manager at Janus Henderson UK Responsible Income.
HL might not share the views of the fund manager.
How can you invest in the UK for income?
If you’re comfortable investing directly in company shares, we recently wrote about 3 share ideas you could consider for generating income.
For those who prefer investing in funds, we think the UK has some exceptional fund managers with great records of adding value. We’ve selected those we think have the greatest long-term performance potential for our Wealth Shortlist.
Investing in these funds isn’t right for everyone. You should only invest if the fund’s objectives are aligned with your own, and there’s a specific need for the type of investment being made. Investors should understand the specific risks of a fund before they invest, and make sure any new investment forms part of a diversified portfolio.
Two UK Equity Income fund ideas
Artemis Income
We think the Artemis Income team are one of the best in the business and are well placed to make the most of UK income opportunities. The experienced trio of Nick Shenton, Andy Marsh and industry stalwart Adrian Frost have over 70 years of investment experience between them and mainly invest in big UK businesses.
The fund invests in companies that they think can pay a sustainable income through the market cycle, whatever the economic backdrop. These tend to be businesses with lots of reoccurring revenues. This increases the chance they can retain and grow their customer base, profits, and therefore dividends over time, although nothing is guaranteed.
At the time of writing, the fund yields 3.98%, though yields are variable and never guaranteed. The fund takes charges from capital, which can increase the yield but reduce the potential for capital growth.
Janus Henderson UK Responsible Income
Janus Henderson UK Responsible Income offers something different to a lot of its peers by avoiding companies some might find unethical.
Some of these areas, like tobacco and oil & gas companies, feature heavily in traditional equity income funds because of their relatively high dividends. So, this fund could offer some diversification to a traditional equity income portfolio or be a good addition to a responsible portfolio aiming for income.
Manager Andrew Jones is supported by an experienced team with a focus on large and medium-sized companies. Although, the manager does have the flexibility to invest in higher-risk smaller companies too.
Jones looks for companies with proven business models, high-quality management teams and strong industry positions. He assesses a company’s ability to defend its position through competitive advantages like brand strength and intellectual property, and whether those advantages can endure.
He also likes companies in a strong financial position, letting them reinvest for future growth, while also rewarding shareholders with rising dividends.
At the time of writing, the fund yields 3.90%, though yields are variable and not guaranteed. The fund’s charges can be taken from capital, which can increase the yield but reduces the potential for capital growth.