Dunedin Income Growth 20 October 2022

The objectives of Dunedin Income & Growth (DIG) are to generate growth of income and capital from a portfolio of mainly UK companies that meet its sustainable and responsible investment criteria. Ben Ritchie has been the lead manager since 2016 and was recently joined by Rebecca Maclean as co-manager, in early 2022.

Over the years, Ben has taken a quality strategy to running the portfolio, seeking out companies with solid balance sheets and resilient operations. He has differentiated the portfolio through a growth bias, allocating more to small and mid-caps than the benchmark index, the FTSE All-Share Index, and other more traditional equity income funds. In 2021, the board refreshed DIG’s mandate for the portfolio to follow explicit ESG criteria. Ben and abrdn already had a strong ESG ethos, so implementing the changes did not require a raft of changes to the portfolio or investment process. In fact, it allowed Ben to double down on quality and growth aspects and these have proved to have been material in the portfolio’s outperformance against the benchmark over the last five-year period (see Performance section).

The trade-off for its growth focus means giving up some yield. However, DIG’s dividend yield of c. 4.9% is still significantly better than the benchmark’s yield of approximately 3.8% and only marginally shy of the sector’s unweighted average (see Dividend section). An options writing programmes provides supplemental and uncorrelated income and helped provide a degree of resilience for income payouts at the height of the pandemic, when many companies halted dividend payments altogether. With strong revenue reserves, the board has posted dividend increases for 38 of the past 42 years.

DIG’s OCF is 0.56%, lower than the simple average of the sector and the trust currently trades close to par. Meanwhile, it uses a moderate level of Gearing.

We believe that DIG’s differentiated approach within the equity income space provides attractions for certain investors. The explicit ESG mandate does away with tobacco and other traditional income stocks with questionable ESG practices. Meanwhile the options writing programme allows the managers to balance income and growth in their stock picks, which we believe could provide investors with better total returns than simply focussing on the highest yielding companies. It should also allow Ben and the team to align the portfolio to the secular trends they currently see as long-term drivers of growth, namely digitalisation, changing demographics and consumer trends.

However, with a target portfolio of just 30-50 stocks, this is a high-conviction approach. If the team’s investment thesis for individual companies does not play out, then DIG’s performance is likely to diverge detrimentally from its peers. This has been the case over the past year amidst the rotation towards large caps, value and commodity stocks. However, DIG’s quality bias provides a degree of resilience and investors, seeing through the short-term uncertainty, may be rewarded when the market favours growth stocks once more. The latest set of half-year results shows that underlying dividend income has been strong. Therefore, we expect that revenue reserves will no longer need to be dipped into and can be rebuilt.