Discovering dependable income

Dominic Neary, Manager, Scottish American

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Scottish American (SAINTS) has a very clear objective: to deliver real dividend growth by increasing capital and growing income. Despite the well-documented concerns on slowing global economic growth, particularly in China, we remain excited by the longer-term prospects for global equity income. With the actions of central governments around the world continuing to depress yields of many traditional income asset classes such as government and investment grade bonds, equity market yields look very competitive. Combine strong starting yields with the growth potential of equity, and the case for the total return from equities over the next five to ten years becomes compelling relative to many other asset classes. SAINTS’ net asset value is therefore fully invested in equities today.

Headline dividends from the major indices may of course struggle in the near term; income concentration in certain sectors such as resources and energy renders dividend streams vulnerable as lower commodity prices lead to forced dividend cuts amongst several significant constituents. In addition uncertainty may also influence the deliberations of other companies’ boards, who may cautiously grow dividends at a slower pace than would be supported by the companies’ cash flows.

It is important therefore to employ a stock-driven, fundamental approach. We are long-term, bottom-up investors, who always invest in carefully selected companies that we believe will dependably grow their cash flows and dividends into the future. As a result market volatility rarely pushes us to make dramatic changes to SAINTS’ portfolio. As the babies get thrown out with the bath water in falling markets however, we do look for opportunities to make investments in great businesses at the right price; the key factors we seek - such as cash flow resilience, a strong balance sheet, and less economically-sensitive growth opportunities - are often overlooked in the rush for the exit.

For example, we recently took advantage of such an opportunity by buying shares in Ambev, the largest Latin American brewer, which we have been monitoring for some time. We are impressed by the quality of management, excellent operating efficiency, and strong cash generation. Similarly we have taken the opportunity to add to a number of our existing holdings. These include the capital-light advertising agency WPP, which continues to grow its earnings and cash flows strongly despite weak growth at some major clients; Kimberly Clark de Mexico, the dominant Mexican personal hygiene products company, that recently reported continued strong volume growth alongside price increases; and Prudential which has a very large opportunity to participate in the growth of the underdeveloped personal savings and insurance products markets across Asia.

SAINTS also makes opportunistic investments outside of equity markets funded by its debenture borrowings. The most notable use of these borrowings is in a portfolio of directly-held UK properties¹ to which we have been adding. These assets are also managed without reference to an index, and currently yield 6.9% with more than half of the rental income inflation-linked under long-duration leases. Steady, dependable income growth from attractively-valued assets once again.

Having just announced SAINTS’ 36th consecutive year of dividend increases, the future growth and security of the dividend remains the board and managers’ number one priority. We believe that this priority is well-supported by SAINTS’ underlying investment philosophy, process and diversified portfolio with its unwavering emphasis on growth, income and dependability. Further, with nearly a year’s worth of dividend payments in the revenue reserve, the dependability of SAINTS’ future dividends is well supported should the portfolio’s income stream prove vulnerable to a sustained global downturn. A dependable source of income in an uncertain world.

¹ Managed by OLIM Property Limited