According to Barnett, while dividend income remains extremely important, what is of more import is the scope for that dividend income to grow over time.
“The headline dividend yield of a company is only part of the equation,” he said, “Shares offering a high yield might simply reflect weak short-term price performance, due to a deteriorating profits outlook, rather than because the company’s success has been overlooked by the market.”
Despite this, however, he added, investors “continue to succumb to the temptation of high but unsustainable yield – they fall headlong into the so-called yield trap, discovering after purchase that the underlying company’s high profits the previous year were not repeatable and that the shares were “cheap” for a reason.”
In order to counteract this, Barnett recommends looking for companies on a 3% starting yield that have good growth prospects, rather than a company with a 6% current yield and a strong possibility it might cut its dividend.
That said, Barnett said he remains comforted by the trend toward higher dividend payout ratios.
“What this means is that companies in general, rather than retaining their profits for a rainy day or for capital investment, have been paying out a higher percentage of earnings by way of a dividend.
Barnett expects total market dividends to be more closely aligned with underlying earnings in the coming year. Which means, based on a consensus expectation of around 3.6% level for 2014 earnings growth, he expects dividends to grow at roughly the same level on average.
“My aim is to invest in companies which can grow their dividend, on a sustainable basis by more than the market average and by more than the rate of inflation,” he added.
