The vast majority of long-term stockmarket returns stem from reinvested dividends, not capital gains. Unfortunately, investors in British stocks could be facing an “income crunch”, says The Sunday Telegraph’s Kyle Caldwell. Two key metrics suggest that payouts are looking stretched and could be cut. The payout ratio – the percentage of earnings paid out in dividends – for UK stocks is above 60%. In most overseas markets the figure is around 40%.
The dividend cover, the extent to which profits after tax exceed dividends, recently fell to a post-crisis low of 1.2. Generally, a level of two is considered safe; the lower the cover, the more unaffordable payouts look. Similarly, “I feel more comfortable when the payout ratio is 50% or lower”, says James Davidson of the JP Morgan Global Equity Income fund.
Big companies may be the most vulnerable. Fifteen blue chips accounted for 60% of the UK market’s income last year, and slower global growth, the oil-price slide and the supermarket wars have hit profits at the likes of Shell and Tesco. Research group Capita expects dividends to grow by 3% next year, down from near 7% in 2015. Income investors may have a tough year.