Investors Chronicle dividend of the week - 02/09/2013

Dividend of the week – Number 9

A few weeks ago, we promised that we would look at the Investment trust sector to provide our readership with some good income generating trusts. I need to say at the outset that I know that readers will be able to come up with some really solid high yielders that I miss but this sector is so vast that I cannot possibly analyse them all. That said, it is DividendMax policy to add in any stocks that our members want us to cover and we will always react positively to requests for additional coverage. In this analysis, though, we are only going to look at the FTSE 350.

Sometimes it is easier to sit back and watch others manage your money, whilst you focus on perhaps a few favoured stocks that you get to know very well. This approach is expensive because whichever way you look at it, you are paying a fund manager to underperform the market is many cases. However, this is not always the case and sometimes you can gain exposure to sectors or situations that you do not understand. For that reason, it may be worth paying the price. Up until recently I refused to cover the Investment Trust Sector in DividendMax on the grounds that I believe you are better off managing your own money. After some pressure from our clients, we initiated coverage of those in the FTSE 350.

This sector is large and it makes me wonder just how much money has been lost by investors over the years as they lose a percentage of their gains in management fees, which unfortunately do not go away if the fund manager actually loses you money. Unfortunately, I found in doing my research of investment trusts that they are a law unto themselves in the information that they provide over the internet. Compared to their ‘real economy’ constituents of the FTSE 350, they have a lot to learn and a long way to go.

My initial search in DividendMax reveals that we cover 31 Investment trusts in the FTSE 350, which immediately gives you an idea of the scale of the sector; Almost a tenth of the FTSE 350. As we are interested in dividends, we set a yield criterion of 3% over an 18 month timescale (most investment trusts pay dividends quarterly these days so it is better to look over time rather than the number of dividends) which immediately reduces the list to ten. It is not sensible to look at dividend cover, so we next look at consecutive annual dividend increases and we are going to go for 5+ as it should be a good indicator of the track record of the investment management. This gets the number down to five and it is worthy of a list:

Merchants Trust, Perpetual Income & Growth Investment Trust, Murray International Trust, Temple Bar Investment Trust and Edinburgh Investment Trust.

In addition, we are going to add the high yielding F & C Commercial Properties trust which pays monthly and so could be of interest to investors seeking a monthly income.

Our next elimination criterion is going to look at the rate of historic dividend growth between 2006 and 2012. The three trusts from the six with the lowest growth will be eliminated.

F & C Commercial Properties Trust is the highest yielder of the group, but is more of an annuity than a growth stock and pays the same 0.5p dividend every month. For this reason, it is not viable as dividend of the week but was worthy of a mention as it does pay monthly. The share price has ranged from 100p to 116p (where it is now) in the past 12 months and at the moment looks fully priced.

Merchants Trust has 30 years of consecutive dividend growth from 4.2p in 1982 to 23p in 2012 and has performed well in 3 of the past 4 years, but had a bad year when the markets fell in 2008/9. It is eliminated on the performance grounds outlined earlier. For the same reason so is Edinburgh Investment trust, which has the following investment policy on its website:

The Company invests primarily in UK securities with the long term objective of achieving:

1. An increase of the Net Asset Value per share by more than the growth in the FTSE All-Share Index; and

2. Growth in dividends per share by more than the rate of UK inflation.

I guess it may depend upon which measure of inflation that you use, but it does not look to me that objective 2 was met.

Against CPI the objective was met in 2007, 2011 and 2012 and not in 2008, 2009 or 2010.

Let’s have a look at the dividend history for the remaining candidates:

Perpetual Income and Growth Trust

Murray International Trust

Temple Bar Investment Trust

Reading the objective of Edinburgh Investment trust gave me the idea of benchmarking all of our remaining candidates against that criterion. I took the trouble of obtaining the UK inflation data from the Office of National Statistics from 2006 – 2012. It came in a spreadsheet containing 64 separate tables going into unbelievable detail. Not recommended reading. Eventually I found what I wanted. See below for a comparison of our remaining companies against the inflation benchmark. Remember that any increase below the rate of inflation is effectively a dividend cut.

From an income perspective, two clear winners are emerging, so let us go on to investigate how they have looked after your capital over the years. Rather than use the websites of the individual trusts, we will rely on an independent third party, Trustnet to provide the figures. It is remarkable how much higher, for instance the Perpetual numbers are on their own website. The Murray International figures were similar to the Trustnet figures.

Perpetual Income and Growth Trust

Murray International Trust (ord. shares)

Temple Bar Investment Trust

So, from an income perspective the star performer is Murray International Trust and from a Share price and NAV perspective it is Temple Bar, which to some extent you would expect as they are distributing less income.

The market loves Murray International Trust and it sits on a hefty premium to NAV of 9.91%

Temple Bar Investment Trust also sits on a premium to NAV of 1.99%

Perpetual Income and Growth trust also sits on a premium to NAV of 1.45%

My gut instinct is to ask why on earth would anybody buy anything that is worth more than its value, but these three stocks have emerged as our winners and it is very interesting to discover that all three trade on a premium to NAV. Most people look at the discount when buying Investment trusts. Clearly you are paying for the Fund Manager.

I am a little surprised by the result and once again find myself in a very tough position in trying to choose our dividend of the week. I am about to have lunch with a couple of hedge fund managers and I will run the result past them and seek an opinion. Between the four of us, we should come up with a selection!

Lunch over and the conclusion is that a 9.9% premium is unacceptable. Temple Bar have performed very well, but the combination of excellent performance and decent income makes Perpetual Income and growth trust our dividend of the week.

As an aside, there was a general consensus that purchasing iShares is probably a better way to expose your finances to overseas markets, trading strategies or specific sectors than investment trusts. (I am not going to tell you about the nice things they said about DividendMax!!)