For more than a decade, income investors have had only a handful of options. However, bond markets have returned to normal, and investors can now generate 5% or more in income by simply buying a gilt. This environment gives equity income a different role in a portfolio. Rather than just providing a high yield, an equity income portfolio now also needs to deliver income growth, diversification, and the potential for capital gains.
“Asia is often thought of as a growth market, but it can play an important role for income investors in this new landscape.”
Asia is often thought of as a growth market, but it can play an important role for income investors in this new landscape. Asian dividend-paying companies tend to be quite different from those found elsewhere, which helps diversify a broader equity income portfolio and bring in new sources of growth. In our view, this is particularly important today, when income investors have a broader choice.
What does this look like in practice? We believe in including sectors that don’t tend to be found in a conventional equity income fund, such as technology. For many of these companies, artificial intelligence (AI) is creating new opportunities, and a powerful source of potential growth. These types of companies in the UK, Europe, or the US often won't pay a dividend, but Asia is a different market.
AI is only one of several compelling growth themes available in Asia. Another area of focus is on consumer aspiration – those companies benefiting from Asia's growing middle classes and increasing wealth across the region.
Green energy is another important theme across the region. Companies that have agreed to spend a percentage of their capex on renewable energy by building solar and wind farms as well as electric vehicle manufacturers generate a strong income from existing assets, which further powers its dividends.
The result is an income portfolio that provides access to a range of growth themes. At a time when investors can get a high income from bonds, they don’t need bond-like characteristics (reliable dividends, but no growth) from their equity allocation. This is why an Asian income fund can fulfil an important role in a portfolio.
Chinese weakness, but economic strength elsewhere
For the most part, Asia is also in good shape economically. The region's governments were less profligate during the pandemic and have less debt, giving them more flexibility on their monetary and fiscal policies. It is a similar picture for the corporate sector. Company balance sheets across Asia are much less strained than those in the west. Balance sheet strength is vitally important for dividend investors to ensure companies can continue paying and growing their payouts to shareholders. It gives companies options. They can pay down debt, raise prices in inflationary times, decide to invest in growth, or raise their distributions.
There does remain one elephant in the room: China. The Chinese market is dominated by the large internet companies that don’t pay dividends, so income strategies tend to have a natural underweight position. However, we cannot escape the consequences of Chinese recent weakness entirely.
There is still a significant adjustment happening in the property sector, as developers are called on to curb their excesses. Where investors are investing in China, they are careful to avoid any sign of fragility. They don't invest in speculative developers or those with significant debt. This is where the greatest pressure has been felt. That said, poor sentiment can generate opportunities.
“Investing in Asia brings a different flavor of potential income to a portfolio.”
It is also worth noting that some parts of Asia may be beneficiaries of China weakness. Companies are diversifying their supply chains away from China, with countries such as Vietnam and Malaysia picking up new business due in part to new trading routes emerging under the China plus-one strategy. India is also becoming more interesting, with the government encouraging companies to set up new manufacturing plants through tax breaks and reduced bureaucracy.
Asia brings a different flavor of income to a portfolio. For investors in Asian equity income, there is no stark choice between income and growth. Instead, it is possible to generate a growing dividend stream from companies that also have a strong pipeline of growth. We believe this is particularly important at a time when investors have a far wider choice of income options.