Please note that tax, investment, pension and ISA rules can change and the information and any views contained in this article may now be inaccurate.
The dangers of ignoring dividend growth rates
Some of the most popular FTSE 100 stocks for dividend income may not be as appealing as you think once you look at dividend growth and the effects of inflation.
In an ideal world you should seek dividend growth levels in excess of inflation so you are obtaining a positive return in real terms.
Many investors forget to look at dividend growth when seeking income investment opportunities, preferring instead to go for yield. For example, HSBC (HSBA) is a popular income stock thanks to its approximate 5.3% yield. What may surprise you is the fact there has been no growth in HSBC’s dividend for three years.
It’s also perplexing as to why HSBC features as one the top holdings in Royal London UK Dividend Growth Fund (GB00B63DTG61), when it offers no dividend growth. One explanation might be that this fund recently changed its name from the UK Growth fund and HSBC is a legacy holding.
HIGH YIELD ISN’T EVERYTHING
High yielding stocks can provide a good income stream but they won’t protect you against inflation if the dividend amount remains the same.
Another FTSE 100 constituent, pharmaceutical company AstraZeneca (AZN) hasn’t grown its dividend since its 2011 financial year despite saying it has a ‘commitment to a progressive dividend policy’.
We note this company is one of the top holdings of Franklin UK Rising Dividends Fund (GB00BT6STC53), another fund whose name is somewhat misleading when considering the presence of AstraZeneca in its portfolio. Franklin says its fund’s objective is to focus on companies that have a history of consistently paying and increasing their dividends.
Many utility companies pay close attention to the real cost of living by saying they aim to increase dividends each year by at least the level of retail price index inflation. Yet even this part of the market isn’t guaranteed to keep growing the dividend each year.
Some analysts believe water utilities could be forced to cut their dividends in response to a price cap review due next year from regulator Ofwat.
SUPERIOR GROWTH EXAMPLES
Data from SharePad reveals that 71 stocks in the FTSE 100 index are forecast to grow their dividend by a greater amount than the current 2.5% level of inflation.
Many of them have a good track record for having consistent dividend growth well above the rate of inflation. For example, safety products specialist Halma (HLMA) has averaged 6.7% dividend growth per year over the past decade. And construction equipment provider Ashtead (AHT) has increased its dividend by 37.8% each year on average since 2010.