Despite downbeat forecasts for the UK’s dividends over the coming year, investors think should be seen as 2020 to be a “reset year” and believe payouts will be better than feared over the immediate future. 
This week’s UK Dividend Monitor, published by global financial administrators Link Group, found that headline payouts from UK companies dropped 44 per cent in 2020 to £61.9bn – the lowest annual total since 2011.
The group also painted a gloomy outlook for 2021, saying UK dividends would rise by 10 per cent to £66bn in its best-case forecast. Under the worse-case scenario, payouts would fall again in 2021 to a total £61.5bn.
Susan Ring, CEO corporate markets of Link Group, summed up 2020 as a “dreadful result” for UK income investors, despite signs of improvement towards the end of the year.
“UK payouts have been more severely impacted than in most comparable countries because of their heavy concentration in the hands of just a few very large companies, mainly in the oil, mining and banking industries – all sectors that have had to cut dividends steeply,” she said.
“There are reasons for optimism, but the resurgent pandemic has pushed back the reopening of the economy even further, especially in the UK. We still believe the worst is past, but a new lockdown means our expectations for 2021 are significantly more subdued.”
Source: UK Dividend Monitor
Ring added to the most significant upside could come from UK banks, which were forced by the regulator to cut dividends in the coronavirus crisis but are likely to, albeit partially, restore them in 2021. On the other hand, she expects the cuts from the oil sector to take several years for the wider market to make up.
“The social and economic scars of Covid-19 will be deep,” she said. “We think it is highly unlikely dividends can regain their previous highs until 2025 at the earliest, and potentially even a year or two after that.”
While Link Group’s conclusion that UK dividends will take five years or more to make up their lost ground looks bleak, Willis Owen head of personal investing Adrian Lowcock is one who thinks investors should find some positives.
“We have long believed that 2020 was a reset for dividends,” he explained.
“Dividends had become unwieldy before last year, but now investors should be reassured that going forward, dividends from companies will be more sustainable, whilst dividend growth could easily surprise if the economic recovery is more robust than expected.”
Lowcock also argued that “the worst seems to be behind us”, noting that firms were fast to make cuts to protect their business in the long run and have used the time since to restructure, recapitalise and adapt. While he still expects some companies will announce further cuts in 2021, dividends on the whole will grow as the pandemic passes and business activity returns to normal.
Where the Covid-19 dividend cuts fell hardest in 2020
Source: UK Dividend Monitor
Simon Young, manager of the AXA Framlington UK Equity Income fund, is another who remains optimistic in the outlook for UK dividends despite 2020’s “annus horribilis” and agrees that 2020 should be viewed as something of a “reset”.
“After such a big decline in income levels from UK plc, we have effectively had a big reset for many companies. We expect a vaccine roll out to improve the outlook for economic growth globally and hasten a recovery in earnings and thus dividends in 2021,” Young said.
"Headwinds remain, not least the impact of FCA rules on bank dividends, and this will weigh on the rate of dividend growth from UK equities this year. Nonetheless, despite the cuts, the starting dividend yield for the FTSE All Share is above 3 per cent and we expect dividend growth of 5-10 per cent this year.
"We are optimistic for the future of UK companies, which in the main, have shown a great deal of resilience, pragmatism and often ingenuity in dealing with a fast-moving virus that has warranted changing government policy with little or no notice.”
The widespread dividend cuts, combined with the weaker performance of UK equities in general, meant that IA UK Equity Income was the worst-performing sector of 2020 after its average member lost 10.66 per cent.
But Lowcock said his preferred three funds in this space considering the current market backdrop are Threadneedle UK Equity Income, Man GLG Income and JOHCM UK Equity Income.
Performance of funds vs sector and index over 10yrs
Source: FE Analytics
Threadneedle UK Equity Income is headed up by Richard Colwell, who Lowcock described as “one of the best-known specialists in the IA UK Equity Income sector”. The £3.7bn fund has a very strong long-term track record and currently top-quartile over one, three, five and 10 years.
Colwell tends to own a blend of high-quality companies with strong cash generation and out-of-favour stocks with recovery potential, some of which may not currently pay a dividend. Top holdings include AstraZeneca, Imperial Brands and Unilever; while the portfolio is invested in blue-chip stocks, Colwell will take significant sector bets against the index to match his thematic views.
Threadneedle UK Equity Income has an ongoing charges figure (OCF) of 0.82 per cent and is yielding 3.06 per cent.
On Man GLG Income, Lowcock said: “Manager Henry Dixon's proven value style underpins his philosophy that pricing inefficiencies can be profitably exploited.”
Dixon is another manager with a strong long-term track, with the £1.8bn fund being top-quartile since he took over in November 2013. The manager looks for undervalued stocks that must have a dividend yield that is at least equal to the UK stock market and his portfolio includes significant exposure to mid- and small-caps. Top holdings include defence contractor QinetiQ and specialist lender OSB Group, as well as larger names like British American Tobacco and Royal Dutch Shell.
Man GLG Income has a 0.90 per cent OCF with a yield of 5.47 per cent.
Clive Beagles and James Lowen have co-managed the £1.9bn JOHCM UK Equity Income fund since launch. “Their skills are complementary. Beagles tends to focus on economic factors and trends to generate ideas, while Lowen focuses more on company analysis,” Lowcock said.
“The two have proved highly adept and disciplined in applying their contrarian approach to equity-income investing that focuses on companies with an above-market dividend yield and reasonable growth prospects.”
JOHCM UK Equity Income has a longstanding bias to smaller companies, which has aided returns over the years but also adds to the fund's volatility. It currently has 17.2 per cent of its portfolio in smaller companies, although all of its top 10 holdings are FTSE 100 names.
It has an OCF of 0.80 per cent and is yielding 5.39 per cent.