MoneyTalks: AMP Capital’s Dermot Ryan on why it’s a good time for forward-looking income investing
MoneyTalks is Stockhead’s regular recap of the ASX stocks, sectors and trends that fund managers and analysts are looking at right now and in this edition we’re looking at income investing.
Today we hear from Dermot Ryan – a co-portfolio manager with AMP Capital’s Australian Equity Income Generator Fund.
Despite the disruption COVID-19 caused to many companies’ capacity to pay dividends, this income investing fund is up 78.4% from the bottom in March 2020.
“It’s actually been a good time for forward-looking income investors because income investing is full of lots of traps,” Ryan says.
“People fall into dividend traps because they think what dividends were paid in the past will be paid in the future.
“Quantum strategies tend to have extreme difficulty in this space because you need to make a valuation judgement call on a stock rather than receive an earnings signal from a broker. And so, there’s been some wonderful opportunities for investors.”
Many stocks that cut their dividends were sold off, representing buying opportunities for income investors with faith these will recover.
Ryan says the cash flows and balance sheet of a company are critical for income investors to look at when pondering buying opportunities.
“We really like companies that are real companies and by that I mean it’s companies that can generate income over a 2-3 year horizon,” he said.
“Obviously dividends were cut across the board last year – it was the worst dividend cut in 30 years, since the early 1990s – but the rebound has been very sharp.
“From an investment philosophy point of view, we are contrarian investors, we’re income investors rather than value or growth investors. It means when you’re looking for income you’re looking not only at cash flows but where those cash flow are going.
“A lot of the traps value managers find in income investing is they own high dividend parts of the market only but don’t look for dividends that can grow.
“We’re patient investors, we’re focused on balance sheets and trying to get quality businesses into the portfolio – because we want to have businesses that can sustain those levels of payouts to shareholders over time.”
When COVID-19 first broke out no one, least of all average income investors, were certain about the future.
Ryan notes many companies raised capital as a contingency and have been able to be in a better position than they otherwise would.
“Last financial year was a record for capital raisings, a lot of companies went out just in case there were problems in the market,” he said.
“And what we’ve found since is because of large amounts of stimulus and the fact that the pandemic hasn’t been as lethal [for them] as some people feared, we’re seeing quite a strong bounce back in economies once they do re-open.
“So, that leads us to be comfortable that distribution growth can continue to grow over time.”
Monetary policy has had influence on the market as well, to the benefit of income investors.
“The RBA is worried about a recession at the moment but we’re not really in recession, we’re in a lockdown – that’s very different,” he told Stockhead.
“So what we’re finding is there are mistakes in monetary policy at the moment because interest rates dropped to zero and there’s been a lot of funding put into the system.”
One sector that has benefited from stimulus – and thereby benefiting income investors – has been the housing market.
This includes companies providing the construction material and the finance or insurance for buyers.
“We think it’s a wonderful time to sell houses, and by that I mean a way to tap into that housing over-exuberance and put companies into your portfolio that benefit from that trend by either selling houses or selling materials to build houses,” Ryan said.
“Brickworks is a good example, they sell bricks – they’re are one of the biggest suppliers in Australia,” he continued.
“They have excess land they’ve been able to convert into industrial property with Amazon and Goodman (ASX:GMG) so they benefit from property boom as well as materials around property boom.
“Similarly, we’ve seen stocks like Genworth which do insurance for first home buyers. They’re in position where credit quality of their book is strong and so we think in time they’ll be able to pay out some strong dividends.”
In resources, Ryan named this graphite company as one stock his income investing fund owns.
“They built their Balama plant in the last cycle but the graphite they produce is enough to provide [for the whole current market – and it has 30 year mine life,” he said.
“Basically we bought it last year at less than the cost it took to build asset and what you’ll see is that over multiple decades as the battery market expands there’s opportunity for them to sell for many decades and go downstream.”
Ryan originally hails from Ireland and first invested in Ryanair back in the 1990s well before his professional investing career.
He labelled Ryanair as the kind of resilient company an investor would want in their portfolio.
“What you’re trying to do in investing is find good companies that can continue to drive earnings over time, they either have to have advantage on cost and systems like Ryanair did and so they managed to go in against the national flag carriers of Europe,” he said.
“And now they’re the biggest European airline and are in the best shape coming out of COVID – they’re talking about trans-Atlantic travel and the ability to go more global from Europe.
“We think that’s wonderful company, they’ve got a great balance sheet and they’ll be able take advantage of cheap pricing in planes throughout the COVID period.
“And that’s the kind of a resilient company you want in your portfolio. You want be in a company that can take advantage of dislocations.
“You also on a personal level want a balance sheet that can take advantage of these dislocations – and step in and be a buyer when other people are fore-sellers and that is an important thing.”
Ryan said a similar example was battery metals miner IGO which was able to buy the Greenbushes lithium mine from Tianqui.
“We’ve seen the same in IGO being able to buy out Greenbushes which is a long term asset that it bought at a cheap price at the bottom of a cycle and will continue to deliver for years to come,” he said.
“And that’s the key to investing and that’s the key to delivering long term wealth in your portfolio,” Ryan concluded
“In that downturn having that ability to turn it on and step in and buy the growth that you need so you can grow the capital and distribution of your portfolio over time.”
The views, information, or opinions expressed in the interviews in this article are solely those of the interviewee and do not represent the views of Stockhead.
Stockhead does not provide, endorse or otherwise assume responsibility for any financial product advice contained in this article.