Royal London UK Equity Income – one of the most popular funds in the sector – dropped down the performance tables last year but fund pickers argue that future is looking bright as companies start to resume dividends.
Most equity income funds suffered a poor year in 2020 when companies were forced to conserve cash to survive the lockdowns enforced to combat coronavirus, slashing their dividends in the process.
UK equity income funds were hit particularly hard, with the average member of the sector posting a 10.73 per cent loss. Many funds them ran large concentrations in high dividend paying companies operating within sectors that were most heavily affected, such as energy and financials.
Martin Cholwill’s £1.7bn Royal London UK Equity Income fund was not spared and ended up in the fourth quartile of the IA UK Equity Income sector in 2020, posting a loss of 14.89 per cent.
Performance of fund vs sector & benchmark in 2020
Source: FE Analytics
Yet despite this backdrop, the equity income giant still remains in the first quartile over the last 10 years and is the fifth highest returning fund in the sector over this period.
Ryan Hughes, head of active portfolios at AJ Bell, said: “The last decade for Royal London UK Equity Income can be split into two parts.
“For the five years to the end of 2015, the fund performed exceptionally, outperforming the FTSE All Share by 35 per cent. But over the last five years , its seen underperformance of 7 per cent .”
“However, it should be recognised that during this underperforming period, the fund has held up well amongst its equity income peers, ranking comfortably in the second quartile.”
Performance of the fund by calendar year
Source: FE Analytics
Hughes explained that London UK Equity Income is managed as a core UK income fund, with Cholwill willing to make strong style bets. However, it is not a deep value strategy like some of its peers, although it is presently underweight the largest stocks in the index.
“This core approach is evidenced by the relatively consistent performance within the peer group when different styles have been in favour with the market,” he said. “However, investors shouldn’t be unsurprised if it lags some peers who take big style bets – instead, they should think of it as a solid long-term income fund.
Hughes added equity income as an investment approach is at “an interesting point”, following the seeing unprecedented dividend cuts of 2020 and some have started to question the style.
“However, the future looks somewhat brighter with many companies resuming their dividend payments in 2021, albeit at a lower base in some cases,” he said.
He believes Royal London UK Equity Income still has a place in an investor’s portfolio alongside more growth orientated funds. However, he said it is vital investors understand how the fund operates and pay due attention to portfolio construction “to ensure sufficient diversification is built into a portfolio”.
Adrian Lowcock, head of personal investing at Willis Owen, also believes that the fund will see brighter days in 2021.
“Royal London UK Equity Income suffered much the same as other equity income funds in 2020,” he said. “The fund’s exposure to financials, oil & gas and in particular consumer cyclicals hit the portfolio hard as the pandemic and subsequent lockdowns surprised investors and markets.”
Lowcock pointed out that the high yielding stocks bore the brunt of the sell-off and dividend cuts, which had a severe impact on the whole IA UK Equity Income sector.
“The lesson from 2020 is that no portfolio is invulnerable nor future proof - events take over and all fund managers can do is react,” he said.
“Cholwill did that: he did not panic but reacted and used the volatility in markets to reassess the case for each stock in the portfolio and reduce and rebalance.
“The fund is invested in some core equity income areas of the market, is well diversified and offers the potential for income and capital growth when the economy reopens and they recovery begins.
“In general equity income has had a reset from 2020. 2021 looks brighter although delays in reopening the economy will impact some areas of the markets but the asset class should also benefit from a rotation into cyclical stocks and value opportunities.”
Darius McDermott, managing director at Chelsea Financial Services, highlighted the longer-term track record of the equity income giant.
He said: “While it has had a challenging 12 months or so, the Royal London UK Equity Income fund has been a consistent performer for many years, comfortably beating the sector average over the longer term.
“Cholwill looks to prioritise stocks with free cashflow, while avoiding overvalued businesses.”
McDermott highlighted the fund’s relatively high conviction approach to holding 40 to 60 stocks, “edging towards the higher figure when the portfolio has exposure to a larger number of smaller companies”.
He added: “Purchases are often funded by selling investments that have achieved close to his perception of fair value, by profit-taking on successful investments and by selling lower yielding securities.”
“Cash is generally kept at low levels; it would only be in exceptional circumstances that it would represent as much as 5 per cent of fund assets.
“The portfolio has tended to have a mid-cap bias and can be slightly more volatile than its peers – but performance has emphatically proven the fund’s process to be a successful one,” he finished.
Performance of fund vs sector & benchmark over 10yrs
Source: FE Analytics
Over the last 10 years, Royal London UK Equity Income has returned 119.32 per cent, versus 76.22 per cent from the average IA UK Equity Income sector peer and 70.31 per cent from the FTSE All Share benchmark.
It has an ongoing charges figure (OCF) of 0.72 per cent and a 3.23 per cent dividend yield.