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Global equity income funds hot sector for 2010, says Rob Pemberton

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Global equity income funds are shaping up to be the most dynamic investment sector for 2010 and are likely to outperform UK only income funds going forward, says Rob Pemberton, investment director of HFM Columbus.

Income seekers who abandoned savings deposits in favour of financial markets and bought corporate bond and UK equity income funds this time last year have seen exceptional and unrepeatable returns.

Over the last year to month end February 2010 the average UK equity income fund delivered a 38 per cent return, which Pemberton says will be a hard act to follow in 2010.

An increasing problem for UK equity income funds is that of clustering with ten companies producing nearly 65 per cent of the UK markets total dividend income. As a result, many UK funds have similar portfolios.

The less well known global equity income-based funds may be an attractive alternative.

“Investing in a global fund has two distinct advantages,” says Pemberton. “Firstly there is a large and varied range of companies in both developed and emerging overseas markets where dividend yields and dividend growth rates are higher than in the UK, and secondly, these funds give you currency as well as sector and stock diversification, especially important given the weakness of sterling.”

Global equity income funds are a relatively new product – they were launched in the last few years – and their size in aggregate is a pinprick compared to investments in UK equity income funds.

“In my view, the global income funds are the hot new sector for asset management companies, and we are seeing a stream of new fund launches,” says Pemberton. “We currently like the biggest fund, the GBP900m Newton Global Higher Income Fund, launched in 2005 along with the Lazard Global Equity Income. Both funds yield around 4.5 per cent.

“The M&G Global Dividend Fund has a lower yield of 2.5 per cent and a different stock selection methodology to its peers, concentrating not so much on the size of the dividend yield but the total return prospects from companies that pay dividends, maintaining that the discipline of having to pay these dividends for many years ensures optimum stewardship and allocation of a company’s capital.”

Pemberton is increasingly wary of the fixed interest market, especially UK government debt.

“Public finances are in poor shape, sterling is weak, future inflationary pressures and the ending of quantitative easing all potentially put upward pressure on gilt yields – and when yields rise the capital value of existing gilts falls,” he says. “This also affects corporate bonds since they are priced from gilts – any rise in gilt yields may also cause corporate bond yields to rise, again leading to a capital loss.”

The advantage of strategic bond funds is that they can use derivatives to shorten the duration of the fund, thereby protecting to an extent the capital value of the fund. HFM Columbus is currently recommending the Henderson Strategic Bond (currently yielding 6.5 per cent) and M&G Optimal income (currently yielding 4.5 per cent).

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