What could this election mean for dividends?

UK companies have dishedo ut more than £1 trillion in dividends since 2007 and payouts from the FTSE 100, which accounts for 90% of the total, are expected to grow for their fifth consecutive year to reach an all-time high of £92.6 billion in 2019.

But dividends look at risk as we prepare to enter the new year, driven by the election, Brexit, low dividend cover and fears that slower global growth could lead to a recession sooner rather than later.

How would a Labour government impact dividends?

On Friday, UK stocks will know whether they will be dealing with the status quo of a Conservative government next year or the radical overhaul of the economy that Labour has promised, and, hopefully, we will know what the fate of Brexit will be.

Labour wants to rewrite the rules for publicly-listed companies and force them to prioritise long-term growth over short-term payouts, claiming the ‘upper echelons of corporate Britain have been corrupted by a culture in which the long-term health of a company is sacrificed for a quick buck for a few’. It also wants to nationalise some of the UK’s most reliable dividend payers like BT-US, Royal Mail, energy suppliers like British gas owner Centrica, water utilities and those that run the country’s railways. These types of stocks usually shelter investors in uncertain times – such as during an election – but are off the table for anyone who thinks Jeremy Corbyn could be prime minister.

Those that fear a Labour government (either with a majority or in some form of coalition) will feel the urge to shift their money out of these stocks. Instead, investors should look for income stocks that look relatively safe even if this election spits-out a Labour-led government, such as miners Rio Tinto or BHP, which are globally diverse and currently among the most generous with payouts with above average yields.

Income investors need to find quality stocks

The priority for income investors should be quality. There are many blue-chips with a strong track record. Tobacco giants British American Tobacco (BAT) and Imperial, alcoholic drinks maker Diageo and defence firm BAE Systems have raised their dividend for at least ten consecutive years and are relatively immune to Friday’s result.

Still, there are concerns about the sustainability of dividends even if the markets get the Conservative government they desire.

Read more about the highest-yielding dividend stocks to watch in the UK

Could dividend yields fall as uncertainty is removed from the market?

Firstly, the uncertainty spawning from the election and Brexit has weighed on share prices, making yields more attractive. This has also weighed on the pound, which has made those dividends paid in dollars or euros more enticing. But both could unwind if the election delivers a majority government and a route to resolving Brexit. The pound has already started to strengthen on the expectations of a Conservative win. Link Asset Services’ latest report said UK stocks paid out £35.5 billion worth of dividends in the third quarter (Q3) alone, up 6.9% and hitting a new record. However, at constant currency, this was down 3% and the worst quarterly performance for three years.

Dividend cover is far from ideal

Secondly, the FTSE 100’s dividend cover is forecast to be around 1.63x in 2019, raising questions about the ability of blue-chips to maintain payouts if there is a downturn. That has nudged down slightly from 2018 and remains well below the ideal figure of 2x earnings, which the blue-chip index has not reported since before 2015.

Special dividends and buybacks have increased

And lastly, the amount returned through special one-off dividends is expected to be the second highest on record for at least the last ten years – which could be a worrying sign. Companies tend to favour special payouts or buybacks when they have concerns about the future as this puts less pressure on them to raise the ordinary dividend the following year.

Read more on whether share buybacks are the fruits of labour or the consequence of short-term focus

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