Business is booming.

As Shell and BP hand out cash to investors – ride £85bn dividend wave

Turning the tide: dividends are the investor's friend

Turning the tide: dividends are the investor’s friend

Dividends are the investor’s friend. They are the driving force behind the pension funds that many employees contribute to, while providing an important source of income for many older investors at a time when household budgets are relentlessly attacked by rising prices.

While not everyone is fond of dividends (especially comfortable with socialist politicians) and can cause controversy, as happened with BP last week, they are an essential part of most people’s financial arsenal.

Growing dividends increase the wealth of many households – so we should welcome them rather than criticize them. They are a bright spot to counter the gloom caused by rising interest rates, rising energy bills, fears of a recession and troubling (terrifying) geopolitical developments in the Far East and Ukraine.

In recent days, two of the largest companies in the UK stock market – energy giant BP and mining giant Glencore – have been paying dividends that will bring a smile to the faces of many shareholders.

Further good news is expected this week when insurer Legal & General announces its financial results for the first half of this year. Analysts expect the dividend to rise by as much as eight percent.

“It’s good to see companies like BP and Shell increasing their dividend payments again,” said Simon Gergel, head of British equities at asset manager Allianz Global Investors.

Shell’s latest quarterly dividend of $0.25 per share, announced last month, was up from last year’s equivalent payout of $0.24.

Gergel runs the £773 million investment trust Merchants which invests in major UK companies and provides high and rising income – along with capital appreciation – for shareholders.

Like most executives scouring the UK market for income-friendly stocks, he refuses to get involved in the debate over whether BP and Shell should hand over money – and pay dividends to shareholders – while households face record energy bills. Both BP and Shell are top 10 positions in the trust.

‘We buy up companies that we think can make a good total return,’ says Gergel. “This focus allowed us to buy and hold large energy companies in 2020 after they cut dividends – and at a time when their stocks were cheap. This has contributed to the trust’s overall performance as these shares have recovered and returned to paying dividends.”

Thomas Moore of investment house Abrdn and Sue Noffke of rival Schroders are more outspoken.

Moore, senior investment director, describes Shell and BP as ‘attractive investment attractions’. He says the “prodigious” amounts of money they generate “will support a growing dividend flow,” while at the same time allowing them to invest heavily in clean energy projects. He also says that companies that generate strong cash flows are often rewarded with rising stock prices.

Both companies are on the rise in the field of ESG (environmental, social and governance) issues, according to Moore. He adds: “They play an important role in reducing Europe’s dependence on Russian oil, both through oil and gas supplies and through their investments in hydrogen and renewable energy sources.”

Noffke manages the £206 million Schroder Income Growth Fund. The largest participation – representing nine percent of the assets – is Shell.

She says Shell’s dividend payments to shareholders could rise from an expected 79 pence this year to £1 in two to three years. But these payments, she argues, should be seen in the context of the massive commitment the global energy giant has made to invest in the UK’s energy sector over the next 10 years, with a significant chunk of capital expenditure (75 percent of the £20 billion to £20 billion 25 billion total expenditure) earmarked for green energy such as offshore wind, hydrogen and carbon capture.

Noffke also says the windfall tax applied by the government to the profits of energy companies operating in the UK should generate £5bn to help households with their energy bills.

Dan Lane, senior analyst at investment website Freetrade, is more cynical, especially about BP. He argues that the decision to hand over a large portion of its second-quarter profits (£6.9bn) to shareholders “contradicts the company’s seemingly promising sustainability efforts” .

Now that he’s got that off the chest, he admits the broader UK dividend picture is “very rosy” as all sectors of the UK stock market reported an increase in income payments to shareholders in the second half of this year.

EXPERTS PREDICT BUMPER PAYMENTS

Following the 2020 dividend drought caused by the pandemic and lockdowns, experts now believe 2022 could be a record year for UK dividends. This is despite the Bank of England warning of an impending recession when it raised interest rates to 1.75 percent last Thursday, the highest level since the 2008 financial crisis.

In the wake of BP’s 10% rise in its quarterly dividend, wealth platform AJ Bell predicted that the companies that make up the FTSE100 Index will deliver combined income distributions in the order of £85 billion this year. If this is correct, payments will be close to the record £85.2 billion achieved in 2018.

“The debate over the rights and injustices of BP’s bumper profits will continue,” said AJ Bell investment director Russ Mold, “but from the narrow investment perspective, FTSE100 companies are on track to return near-record amounts of dividend money to shareholders by 2022. ‘

AJ Bell’s analysis is in line with forecasts made last month by financial data specialist Link Group. It believes revenues paid by the UK stock market as a whole to shareholders – not just the 100 largest companies – will rise 12.5 percent this year to £86.8 billion.

1659821924 669 As Shell and BP hand out cash to investors

1659821924 669 As Shell and BP hand out cash to investors

By adding one-time special dividends – Glencore announced such a payment last week – the payouts will total £96.3 billion. In 2020 the equivalent amount was £64.4 billion.

If we translate these figures into the income that investors in UK listed companies can expect from their shareholdings, we are talking about annual dividend income in the vicinity of 3.7 percent. This is the average of the companies that are part of the FTSE100.

HOW DO I GET A PIECE OF DIVIDEND INCOME IN THE UK?

Investors can take advantage of the higher dividends promised by some UK listed companies by buying shares directly in them. This is best done through an investment platform operated by companies like AJ Bell, Hargreaves Lansdown and Interactive Investor.

While the average dividend paid by FTSE100-listed companies equals 3.7 percent per year, some companies pay more.

For example, the dividend on shares in Legal & General is around 6.9 percent – ​​attractive to an income investor. Shares in tobacco giant Imperial Brands and mining companies Anglo American and Rio Tinto, among others, offer even higher percentages of 7.6 percent, 7.4 percent and 11.9 percent, respectively.

Of course, dividend hikes aren’t guaranteed — and a full-blown recession could worsen the music for the dividend vote.

As a result, Wealth believes a more sensible approach for income-hungry investors is to buy a mutual fund that invests in a basket of dividend-friendly UK stocks. Collectively, they are known as UK equity income trusts.

Not only do these trusts provide investors with all-important diversification, but they can also funnel some of the income they get from their investments in good times — and then pay it out in hard times (2020). This has enabled many of them to achieve long periods of dividend growth for shareholders.

The table above details eight UK equity income mutual funds that currently pay out at least four percent annual income. They’ve all had at least 10 years of annual dividend growth – some significantly more. They all have exposure to BP or Shell – or both.

As with individual stocks, there is no guarantee that these trusts will continue to grow dividend payments — or that their stocks will appreciate in value.

But as Annabel Brodie-Smith, director of the Association of Investment Companies, says, “Income is a high priority for many investors, especially in today’s challenging market conditions, and mutual funds are best suited to deliver it.”

The last word goes to Laura Foll, manager of Lowland investment fund (one of eight).

She says: ‘We want some companies to be able to grow their profits (and therefore dividends) at a time of rising commodity prices, such as Shell and BP.

“We want others to grow their revenues because of a blockbuster new pharmaceutical product or growing infrastructure spending.

“It’s the combination of a growing and diverse income stream that helps ensure the sustainability of trust dividends over time.”

For those wanting to learn more about income investment trusts, visit theaic.co.uk. If you’re looking to build an income portfolio, the AIC’s income finder can help. Visit: theaic.co.uk/income-finder.

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