3 Large-Cap Income Stalwarts

Let's look at the top holdings of the some highly-rated income funds

James Gard 24 November, 2021 | 10:32AM
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Man stacking coinsAs part of income week, so far we’ve focused on funds and ETFs. Now it’s the turn of large-cap UK income stocks. Our monthly round-up for the highest yielding FTSE 100 stocks is a reasonable place to start.

Let’s look in detail at some UK income stocks which are owned by the funds with the highest Morningstar Analyst Ratings.

Screening with the 41 funds rated Gold for certain share classes, Franklin UK Equity Income, JPM US Equity Income, M&G Optimal Income are the only income-focused offerings among a raft of index, smaller company and recovery funds.

AstraZeneca

Starting with Franklin UK Equity Income (W inc), the latest portfolio data from Morningstar Direct from October 31 2021 shows that Covid-19 vaccine pioneer AstraZeneca (AZN) is the top holding in the fund, making up just over 5% of the portfolio.

The fund’s stake in Astra was first built up 10 years ago and is now worth just over £45 million. Morningstar analyst Samuel Meakin says manager Colin Morton “seeks companies that are market leaders in their respective fields, with the ability to generate strong free cash flow yields that are in excess of their dividend yields, to allow for dividend growth potential”.

“Stocks with lower dividend growth potential but higher dividend yields are also included when Morton believes a stock is mispriced and he is confident in the sustainability of both the yield and the cash generation of the business,” Meakin adds.

“Colin Morton prefers sturdy large-cap companies with cash flows, earnings, and dividends that compound over time.”

Astra is a good example of this. Before the pandemic, it was seen as a steady, reliable, but generally unexciting income stock. Now with its vaccine-fuelled gains, the company is the biggest in the FTSE 100.

After its recent progress, the wide-moat company’s shares are rated as fairly valued by Morningstar analysts. Indeed, its yield of around 2% may be below the FTSE 100 average, but investors need to factor in reliability and the company’s progressive dividend policy, which aims to maintain or increase payouts in line with earnings.

And, on that note, annual dividends have been above 2p per share since 2016 and the company did not cancel dividends last year as so many big names did. It continued to pay out last year, in March and September, as it has done this year. Without share price gains, this would be commendable, but the shares have doubled in the last five years to around £84. All in all, that seems pretty commendable.

ConocoPhillips

Shifting the focus to the United States, JPM US Equity Income also has a Morningstar Analyst Rating of Gold for the K share class (inc).

By a small margin, oil major ConocoPhillips (COP) is the fund’s biggest holding with a weighting of 2.70%. Like AstraZeneca, Morningstar analysts think Conoco’s shares are fairly valued, and likewise have a yield over 2%. The US oil company’s shares are up 25% in the last six months after a bruising 2020 for the energy sector – and at around $72 per share, are now above pre-pandemic levels.

Morningstar’s oil analyst Allen Good says ConocoPhillips stands out from a crowded field because of its approach to capital returns. “Its strategy makes it a compelling option in the energy sector, given its commitment to capital restraint and clear policy on return of cash to shareholders,” he says.

Given the volatility in the oil sector in the last few years, the Texas-based company is also an all-weather stock. “Its low-cost portfolio gives it high return investment options to grow in a rising price environment while its strong financial position keeps the dividend safe in a downcycle,” Allen adds.

Taiwan Semiconductor Manufacturing

Because M&G Optimal Income is a a fixed-income fund (its top holding is UK gilts), it cannot  be included in our list. 

We therefore move on to Silver-rated funds, which is a larger group of funds still sparsely populated by income offerings (12 out of 110 funds). Shifting the focus east, we’re looking under the bonnet at Schroder Asian Income (Z Inc), which also has the maximum Morningstar Sustainability Rating of 5 globes.

“Investors should be aware that given the income mandate, the strategy is likely to lag in high-growth or momentum-driven/narrow markets such as 2020," says Morningstar analyst Lena Tsymbaluk.

In that year, the market performance was driven by a handful of Chinese e-commerce and consumer names, including Tencent (TCEHY), Meituan (MPNGF), JD.com (JD), and Baidu (BIDU), which don't pay dividends; the absence of them in the portfolio hurt relative returns.

"That said, long-term performance has been strong (since December 2009), ahead of all yardsticks, along with superior downside protection and lower volatility,” she adds.

The fund’s top holding is emerging market fund favourite and former stock of the week Taiwan Semiconductor Manufacturing (2330), or TSMC for short. Despite some serious capital gains over the last few years (25% over one year and 236% over five years), Morningstar analysts think the shares are still undervalued at 613 Taiwan dollars, with a fair value of 800. TSMC is seen primarily as a growth stock but it yields just below 2%. Going back over 10 years of data, TSMC has been raising dividends since 2015, and the payout did not drop below 10 Taiwan dollars even in 2020’s crisis period.

The information contained within is for educational and informational purposes ONLY. It is not intended nor should it be considered an invitation or inducement to buy or sell a security or securities noted within nor should it be viewed as a communication intended to persuade or incite you to buy or sell security or securities noted within. Any commentary provided is the opinion of the author and should not be considered a personalised recommendation. The information contained within should not be a person's sole basis for making an investment decision. Please contact your financial professional before making an investment decision.

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Securities Mentioned in Article

Security NamePriceChange (%)Morningstar
Rating
Baidu Inc ADR125.34 USD5.45Rating
ConocoPhillips104.61 USD0.12Rating
JD.com Inc ADR52.78 USD3.09Rating
Meituan22.00 USD3.97
Taiwan Semiconductor Manufacturing Co Ltd ADR90.21 USD-0.35Rating

About Author

James Gard  is content editor for Morningstar.co.uk