Dividends are one of the great things about investment trusts. During downturns or at times of market volatility, they offer certainty that at least a modicum of income will come your way.
They also demonstrate a trust’s commitment to its shareholders. The Association of Investment Companies’ dividend heroes table lists 18 trusts that have been raising their dividends every year for at least two decades, with the top three – City of London (CTY), Bankers Investment Trust (BNKR) and Alliance Trust (ATST) – boasting a whopping 56 consecutive years of dividend increases.
But the UK market’s relentless focus on dividends can feel a bit much, and one has to wonder what it does to its growth prospects. While dividend reinvestment does boost your returns, one wonders if payouts represent the best use of cash in certain cases.
These questions have relevance for investment trusts, as well as individual companies. What about the trusts investing in assets that are not typically income-generating, such as venture capital trusts or private equity? Analysts have different takes on the topic.
Princess Private Equity (PEY) had to suspend its second interim dividend last year, partly because it needed the liquidity to settle some currency hedging contracts. Earlier this month the dividend was reinstated, but Stifel analysts pointed out that it was the third time the company had reduced or suspended payouts in the past 10 years, “terminally” damaging its appeal to income investors. The analysts proclaim themselves “wary of dividends paid by private equity funds, given that these are essentially returns of capital rather than covered by revenue earnings”.
On the other hand, other private equity trusts have continued to pay their dividends even in a challenging environment for the asset class. Mick Gilligan, head of managed portfolio services at Killik, argues that venture capital and private equity trusts paying dividends create a broader demand for their shares because they can appeal to both income and growth investors. Meanwhile, any return of capital, whether through dividends or share buybacks, can be of help if the trust’s shares are trading at a discount. “I am comfortable with this and indeed it helps when constructing portfolios that have a high income requirement,” he says.
Oakley Capital (OCI) has an interesting mixed stance. It pays a small dividend, which partner Steven Tredget says is mostly a legacy from when the trust used to have some big income funds among its owners, as well as constituting a useful “discipline”; but currently prefers to return capital through share buybacks. Buybacks are more flexible than dividends – for one thing, investors are less likely to penalise management for employing them sporadically rather than regularly – and as such perhaps more suitable for a growth-focused asset class. Historically, they haven’t been popular in the private equity space, but a few private equity trusts did initiate them in 2022.
Outside of private equity, Gilligan notes that other trusts that pay high yields that are supplemented from capital include many JPMorgan portfolios, such as JPMorgan China Growth & Income (JMC) and JPMorgan European Growth & Income (JEGI). With more liquid assets, sustaining a dividend paid out from capital is easier, although the question remains whether it might occasionally force trusts to sell holdings at a loss. All in all, dividends are a great way for investment trusts to give back to their shareholders, but trusts need to truly be able to sustain them – otherwise, perhaps a focus on growth is not such a terrible thing after all.
