I am in my 30th year at Henderson and I have been the manager responsible for Lowland for the last 23 years. When I joined the young junior fund manager was usually given an income fund as the first portfolio he was fully responsible for. The reason was the discipline of buying high yielding out of fashion stocks and selling the fashionable low yielding stocks usually pointed the young manager in the right direction. The focus on dividend paying companies meant the fund manager was looking at cash flows as dividends. This meant he was likely to make fewer mistakes. In time the portfolio manager was meant to move on to other types of investment mandate. I have never moved on as I still enjoy the disciplines of income orientated portfolio management.
However, for successful income equity investment the manager needs to have a secret growth bent. It is capital growth that over time provides sustainable strong income growth. The mistake some income managers make is to focus on current high yield and this often drives them into value traps. If the capital is growing with an income discipline long term dividend growth can be achieved. It is wrong to bleed the capital into the income account by ever “buying” income. When the manager does this he is creating a rod for his own back and each year he has to do a bit more and in time the capital pool will have shrunk and the income will no longer be sustainable.
The emphasis on capital growth has always been central to the investment philosophy of both Lowland and Law Debenture which I also manage. The costs of running the investment trusts are always taken through the revenue line so we never chip away at capital pretending it is income. Over time capital and income usually advance at around the same rate. Therefore, the portfolio that produces the best capital growth can also provide its shareholders the best income return. I like to believe almost all the stocks in the portfolio will show good dividend growth over the next few years. Nothing is held just for its dividend, it is held because it is a dynamic growing company.