M&G manager’s investment approach targets undervalued firms with capital discipline
Global growth funds have outperformed over the last year despite worldwide market volatility, with the IMA Global Growth sector up 19.1% over 12 months to 5 July.
According to Morningstar, M&G’s Global Dividend fund is up 30.5% over the same period. The £199m vehicle, which has been managed by Stuart Rhodes since its July 2008 launch, is ranked fifth out of 194 funds in the Global Growth sector over one year.
Rhodes employs a bottom-up stockpicking approach, driven by fundamental analysis of individual companies. His investment strategy is to identify companies that understand capital discipline, have the potential to increase dividends consistently, and are undervalued by the stock market.
Dividend yield is not the primary consideration for stock selection. The fund’s holdings are selected from three categories.
Firstly, quality – where the sustainability of a company’s return on capital is underappreciated by the market. Secondly, internal change – where a company’s restructuring leads to an improvement in returns. Thirdly, external change – where a changing environment allows a company’s assets to benefit from a step up in returns.
The fund’s country and sector exposure is not influenced by top-down views. The manager aims to hold around 50 stocks, with a typical holding period of three years.
Rhodes says: “We invest in businesses that have the capability to increase the dividends over the long run, and because we are global we can do this across any geography and, more importantly, any sector as well.”
The manager says he believes the outcome of this unconstrained approach across different areas of the market is a balanced portfolio.
“This is difficult to achieve in the UK purely because of the concentration risk in the major companies and therefore the major sectors,” Rhodes says.
“Globally, there are lots of opportunities in all sorts of different places with all sorts of different business models, which means you get a fair amount of diversity within the portfolio.”
The manager believes his emphasis on growth businesses has helped to drive the fund’s outperformance.
He says: “The companies we are invested in are primarily very well-run businesses, which should perform well in all periods.
“They actually understand dividends help them run the business, and make sure the company is spending on sensible things.”
Rhodes believes during periods of market volatility, such as the last two years, people realise these long-term growth companies are higher quality than the rest of the market and are therefore willing to pay a premium for them.
The portfolio has a low turnover, averaging between 15% and 20% a year. Once Rhodes finds a company with consistent dividend growth he rarely sells out unless valuations drop to what he calls “extreme levels.”
Rhodes says: “When we find them, nine times out of 10 we do not get many reasons to sell them because we know they are going to compound growth for us over the long run.
“There are some good examples of businesses which, if you had stuck to investing in them over the last couple of decades, you would have done extremely well.”
He points to Johnson & Johnson as a company that has increased its dividend for 46 years in a row.
“We are looking just to get access to this sort of tailwind company,” he says.
“If we can get a lot of companies in the fund that fit this kind of track record, we will need to turn over the fund very rarely.”
Brazil is one market he favours, partly because Brazilian companies are legally obliged to pay at least 25% of their net income in dividends when they reach a particular size.
“There is no withholding tax on the dividends you get as well,” he adds.
“There are some extremely well-run businesses that have a lot of dividend discipline in a region with attractive growth prospects longer term,” Rhodes says.
One Brazilian holding he has bought is Banco do Brasil, which is the largest bank in the country.
He says: “The old saying is if you like a country you have got to like its banks. We believe Banco do Brasil has a lot of sensible growth ahead of it, at the same time as paying dividend yield north of 6%.”
The manager also favours Australia because it is “incredibly tax advantageous” for companies to pay dividends.
“It has a franking system, which means there is a huge history of companies paying dividends within this market,” he says.
“The dividend yield is one of the highest in the world and it has historically always been at the high end of dividend yields when you are comparing global markets.”
Rhodes believes there are too many global dividend fund managers who think dividends and growth are mutually exclusive and that it is not possible to combine the two.
He says: “I fundamentally disagree with this. I believe there are lots of opportunities to find decent growth businesses that grow alongside paying a decent dividend.
“I would much rather have a growing 4% dividend yield than a static 6% dividend yield.”
Rhodes adds: “There is a lot of focus within traditional income funds on just getting as much yield as possible.
“I think this is a bit short-sighted because a growing 4% yield catches up with the high yields very quickly over time.”
Rhodes believes there is still a place for global dividend funds in investors’ portfolios.
“There is a huge myth the UK is the cultural centre of the dividend world. It states dividends are a stronger part of management teams and a stronger focus of the board in UK businesses, and it is complete rubbish,” he says.
The manager points out there are nearly 100 companies in the US which have increased their dividends every year for 25 years in a row or more.
By contrast, he says there are only four companies in the UK which have achieved this.
“Dividends and dividend culture is very important to lots of other places in the world,” Rhodes says.
“There are many examples of fantastic dividend track records which are far superior to anything in the UK. I think we can get exposure to some brilliant dividend businesses with some phenomenal dividend track records.
“We should open our mindset and get exposure to these companies because there are not that many in the UK which give you the same thing. There are some, but why not open up your choice and be able to get the cheap ones?” he adds.
