Ask a Fund Manager
The Motley Fool chats with fund managers so that you can get an insight into how the professionals think. In part two of this edition, we're rejoined by Don Hamson, managing director at Plato Investment Management.
The Motley Fool: 2022 saw the mining and energy sectors deliver some of the top ASX 200 dividend yields. How do you see that playing out in 2023?
Don Hamson: Despite the naysayers, Australian miners have continued to deliver strong dividends, hence why many have remained in our portfolio.
Broadly speaking, we think this will continue into 2023. Income from the sector will remain strong, but we may not see the record dividends and special dividends seen in recent years.
BHP Group Ltd (ASX: BHP) is a good example here.
In FY22, it posted net profits of US$22.4 billion. That was up 64% on 2021 when many thought it was the peak for the 'Big Australian' because it was the top of the iron ore cycle. But last year, it was coal that provided a windfall, generating about US$9.5 billion for the company. A great demonstration of diversified revenues.
BHP is now trading on a double-digit grossed-up yield, with an incredibly strong balance sheet. In its FY22 financials, it had US$300 million worth of debt – it can make that up in about a week!
MF: What other sectors look like they might offer some strong potential ASX 200 dividend plays?
DH: Along with the resources sector, we remain positive on financials over the coming 12 months.
There will be challenges for the big banks if more Australians start struggling with rising mortgage repayments. But they came out of the COVID period in great shape, have strong balance sheets and improving profit margins due to those rising rates.
Beyond the Big 4, there are also some great opportunities for income, such as Macquarie Group Ltd (ASX: MQG) as previously mentioned.
Commonwealth Bank of Australia (ASX: CBA), Macquarie Group, National Australia Bank Ltd (ASX: NAB), and Westpac Banking Corp (ASX: WBC) are all in our top 10 holdings right now.
MF: What do you see as the biggest threat for ASX dividend investors in 2023?
DH: We think we are now in a period where there'll be more dividend traps than investors have seen in recent years. This is a result of a very complex investing and economic environment, with central banks around the world tightening, inflation volatility, and geopolitical concerns.
Dividend traps occur when you see lofty dividend yield figures on a stock but in reality, the company's dividends are being cut and their stock price is falling. Investors should remember the dividend yield figures you see associated with stocks are always backwards looking.
When it comes to generating income from equities, avoiding dividend traps is just as important as finding the strong and sustainable dividend payers.
Two examples of dividend traps over the past year have been Magellan Financial Group Ltd (ASX: MFG) and Alumina Ltd (ASX: AWC). Both were trading on dividend yields of over 10% at times. But investors, of course, never saw that sort of income, and may have seen a capital loss.
MF: And what's the biggest opportunity for ASX dividend investors?
DH: Strong balance sheets and franking credits are two great opportunities for income investors.
If you do your homework, you'll find many Australian companies with very strong balance sheets, despite a lot of the doom and gloom and sensational headlines about the economy and recession. A strong balance sheet is an enabler of strong and sustainable dividends.
As always, franking credits will remain a major source of additional income for retirees and low-tax investors. They are the icing on the dividend cake.
For every one dollar of income received from fully franked dividends by pension-phase and other tax-exempt investors, an additional 43 cents on top of franking is received.
MF: What's your outlook on dividends from the broader ASX 200?
DH: Plato's modelling is projecting that at an index level in 2023, the ASX 200 will deliver a cash yield of 6% when including franking credits. On top of this, we think active and tax-effective portfolio management will deliver significant additional income.
MF: Are there any income stocks you're likely to avoid, any of the so-called dividend traps?
DH: Higher interest rates and mortgage repayments are likely to hit mortgage holders big time this year. This might see revenue and profits of some consumer discretionary stocks take a big hit.
Having said that, the prices of many discretionary stocks have already fallen a considerable amount. And, so far, retail sales have held up very well. So it will be interesting to see how this pans out in 2023.
MF: If the market closed tomorrow for five years, which ASX 200 dividend share would you be sure to want in your portfolio?
DH: We think the set-and-forget approach can be a dangerous strategy in a world that is ever-changing.
Having said that, Macquarie would be my choice here. They have a great track record of taking advantage of change and growing their business in different directions, such as being a leading player in decarbonisation.
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If you missed part one of our interview, you can find that here.
(You can find out more about the Plato Australian Shares Income Fund here.)
