This article is part of Morningstar’s Guide to Income Investing. Whether you are looking grow your pension pot, or invest for retirement income, this week we have all the news, information and education you need. Here, Hugh Yarrow, manager of Evenlode Income urges investors not to write off the global consumer.
Consumer branded goods companies have significant sales exposure to emerging markets and prices were hit by the recent China-driven stock market volatility. However, recent results in the sector were a reminder that despite tough conditions globally, these businesses enjoy a resilient demand profile – shampoo, soap, toothpaste, beer, cigarettes – pricing power and good levels of cash generation.
Unilever (ULVR), for example, managed to post underlying sales growth of +6% in emerging markets for the first half of the year, during a period in which GDP for emerging markets in aggregate, excluding China, appear to have not grown at all. Several of our positions in this sector also have very good potential for margin progression in our view, thanks partly to falling commodity prices and also to efficiency improvements.
It is true currency weakness has been a significant drag on reported earnings for these businesses over the last two years, and has slowed the rate of dividend growth in the sector overall. However, currency headwinds will ultimately ease and turn to tailwinds, and in the meantime dividends continue to move forward at a reasonable rate. Below are the prospective dividend yields and the most recent dividend increases from our largest positions in this sector.
Longer term, the opportunity for these companies to grow cash flows and dividends thanks to their geographically spread brand portfolios remains compelling in our view.
More generally, we view global diversification as a positive attribute, notwithstanding the market’s recent preference for companies with cyclical gearing into the UK economy. Geographical expansion presents opportunities for incremental growth and returns over the long-run. We cherish the qualities of these companies and would not want to jettison these positions based on short-term market trends. These moves, in our view, have made many multinational companies look increasingly compelling.
Cash Return Potential Remains Strong
The primary valuation metric we use when valuing companies is our forward cash return measure. This is analogous to looking at shares as a bond investor would – for example, a higher forward cash return represents better value. The chart below updates the forward return potential we see in both the portfolio and the investable universe as a result of the current market correction.
Valuations have improved significantly and, on our estimates, look as attractive as we have seen in the last three years or so. We are also reassured by the cash-backed dividend yields and potential for dividend growth.
This article is part of Morningstar's "Perspectives", written by third-party contributors.
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