I always used to like April Fool’s Day as a kid. Mainly for the fun of guessing the false headlines in the papers and on the TV. I suspect this year would have been harder than ever: “20% of the planet on lockdown”, “US government considers sending checks to the whole population”, “3.3 million Americans file for unemployment in a week”, “All professional and amateur sport suspended”, and “Pasta in such short supply due to stockpilers”, oh how we could do with that bumper spaghetti-tree harvest of 1957.
We live in extraordinary times, facing a crisis that is truly unprecedented in our modern era. It is taking its toll on lives and jobs, with economies across the globe stripped down to the bare essentials. It is different this time. Ultimately this is a deliberate attempt by governments to reduce economic activity and hence slow the spread of COVID-19. The data that is starting to come through looks worse than anything we saw in 2008/09, and is likely to continue for some time. We are not just seeing a slowdown, we are seeing most of the world’s industries grind to an absolute halt.
It has become near impossible for many companies to give guidance for this year’s earnings, and there have been a raft of dividend cuts and suspensions in response to the crisis. In many cases these have been from businesses that were already facing structural pressures, and those dividends were broadly at risk before the crisis. The lockdown has decimated revenues in travel, leisure and retail, and in the latter’s case serves only to accelerate the shift to e-commerce.
Several companies suspending dividends are those which, at the start of the year, you’d have bet your last can of baked beans on. Perhaps the poster child of this is Rentokil. Despite being a pest control company (you might have thought it would actually benefit from the large number of deep cleans going on in offices round the world), its revenues have been materially hit because one of its largest customer sectors is the hospitality industry.
Given the nature of the current crisis, uncertainty abounds: surrounding the virus itself, how long the lockdowns might need to be in place, whether the giant fiscal stimuli put in place can help us all weather the lockdown, and how companies and consumers might react after the event. It is therefore prudent for certain companies to hoard cash until some form of normality returns – for their business at least. This is sensible capital allocation. And while the loss (temporary or not) of dividends is painful for income investors, I still prefer it to pushing on with dividend payments whatever the cost, risking coming cap in hand to the market when the cash runs out.
A handful of companies owned by our Rathbone Multi-Asset Strategic Income Portfolio have suspended or cut their dividends, but so far this impact has been limited. A large percentage of the income we pay to our investors comes from the bonds in our portfolio (roughly a third) and we remain confident this income stream will remain intact. We have also generally avoided alternative income strategies which are coming unstuck in this environment, both from an income perspective and in terms of capital losses. There will likely be further dividend cuts and suspensions in the wider market as the weeks go on, and our fund won’t be immune to this. However, even when taking some very conservative estimates (if banks suspend their dividends) we expect our fund to meet its minimum income target of 3% a year, given we target companies with strong balance sheets and relatively secure dividends. We also spread our investments to ensure that we don’t rely disproportionately on any one sector for making distributions to our unitholders. Even if more of our businesses suspend dividends in the current environment, we have picked our holdings based on strong balance sheets and their long-term viability. That means they should be able to return to previous levels of operation, and therefore earnings and dividends, relatively quickly.
We are not making wholesale changes to our portfolio chasing dividends. We will not sell good companies that have taken prudent action in the short term. We have continued to use cash to add to high-quality companies which we expect will come out of this crisis stronger. At the same time, we’re looking to take advantage of the lack of liquidity in bond markets to pick up quality corporate bonds at attractive prices, which should help shore up our income payouts in the medium term, too.
This April Fool’s Day, I think I’ll simply avoid the endless crescendo of news entirely. Stay safe out there.
