UK equity income market review – July 2016

UK Equity Income

Yields continued their downward path during July. The yield on the FTSE 100 Index fell from 3.84% to 3.72% during July; meanwhile, the FTSE 250 Index’s yield dropped from 2.82% to 2.66% and the FTSE Small Cap Index’s yield declined from 3.07% to 2.91% .

In comparison, the yield on the ten-year UK government bond fell from 1.00% to 0.80% over July. Demand for funds in the UK equity income sector plunged during June, according to the Investment Association (IA) . The sector experienced outflows of £310 million during the month as investors scrambled for the perceived safe havens of fixed income and targeted absolute return funds following the Brexit vote.

Having been hammered by the Brexit result in June, the FTSE 250 Index – whose constituents tend to be more exposed to the UK economy than their blue-chip counterparts – had almost recovered to pre-referendum levels by the end of July. Over the month as a whole, the mid-cap index rose by 6.2%, while the FTSE 100 Index climbed by 3.4%. Since 2016 began, the FTSE 100 Index and the FTSE 250 Index have risen by 4.2% and 0.8% respectively. Over the year to date, the strongest-performing FTSE industry sectors have been industrial metals & mining, technology hardware & equipment, industrial engineering, oil & gas producers, and tobacco. Financials continued to dominate the laggards: the worst-performing sector since the start of 2016 was real estate investment & services, followed by general retailers, banks, and life insurance.

In the wake of the UK’s Brexit decision, sterling’s weakness is expected to provide a boost of around £4.3 billion for dividend payouts this year, according to Capita Asset Services’ latest Dividend Monitor . A sizeable proportion of dividends paid by UK companies are denominated in US dollars or euros and, despite some large-scale dividend cuts earlier in the year, the effects of exchange rates are likely to boost headline dividend payouts by 3.8% this year.

Looking back, the second quarter of 2016 was also characterised by a raft of special dividend payments. Capita reported that a record 22 companies paid a special dividend during the period, and special dividends quadrupled year on year to £3.5 billion. However, on a more sobering note, declines in corporate profits have reduced dividend cover, which could make it hard for some companies to continue to grow their dividends.