Dividend digging in Asia

It is small wonder dividend paying stocks are coming back into vogue. Bond yields are now so low and even negative in the cases of several sovereign bonds that the steady income from equity yields now looks especially attractive.

Globally, this has put dividend yielding stocks back into the spotlight. Investors seeking a steady income should look for stocks or funds that invest in dividend payers.

A perception is that Asia doesn’t pay good dividends. After all, goes the argument, Asia is a growth region and growth stocks don’t pay dividends. Right? Wrong. As Fig 1 shows, except for Australia and its well-developed franking system, Asia is the largest dividend paying region in the world in terms of percentage of index returns.

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Fig 1: Total Return (including dividends) by regions1

Fig1-revised-for-AREMA- launch-updated-article

There are a handful of reasons for this, not all of which may be appreciated by global investors. First, after multiple years of expansion, corporates in Asia have large amounts of cash on their balance sheets, leading to pressure from shareholders to do something with it. One option is an acquisition but with sometimes elevated prices and national protectionist policies, this isn’t always possible.

This leaves either share buybacks, popular in the US, or dividend payments, favoured in Asia. Dividends are favoured in Asia as companies here tend to maintain better corporate debt leverage vis-à-vis their developed market counterparts while they also need to keep capital expenditure (capex), research & development and cash levels relatively high to cushion macroeconomic gyrations.

The result is that dividend yields in the region are higher; Asia also hosts some of the single biggest dividend payers.

In fact, Asia is packed with high quality, well managed, established companies that regularly pay out dividends to shareholders, and an investor who wants a steady income as he/she waits for share prices to rise should look for these stocks or funds that invest in dividend payers.

What makes a good dividend stock

To start with, investors should look for sustainable earnings growth. This means a company with a steady revenue stream from ongoing operations. For this, utility companies are often cited as good examples, and this is the case in Asia too.

Second, balance sheet strength. This has multiple layers and requires a “deep dive” into the company’s accounts. Investors should question whether the company’s short-term assets can pay off its short-term liabilities; or does the company carry excess debt compared to its equity. A dividend paying stock generally has high cash and low debt levels, and/or low capex levels. This isn’t set in stone of course, and investors need to be careful not to write off investing in a company because of a one-off item, but one should always investigate whether the dividend payment is sustainable over time. And for that, it needs to have a strong and stable balance sheet.

The third point follows from this: a company generally has to have a strong free cashflow yield. This means the company can generate regular sales that puts cash in the bank and is not reliant on other balance sheet assets such as ‘intangibles’ on a strong brand, or long payment deferrals that could cause a fluctuation on the cash line.

Fourth, does the company have a good track record of increasing dividend payments? If so, it would be a strong candidate to continue to be so in the future too. And conversely of course, if a company has a record of cutting dividends, investors should be extremely diligent in their investigations into why it was forced to make those cuts.

Sectors that offer good dividends

Inevitably, certain types of stocks lend themselves to being good dividend payers. Utility or telecom stocks have a steady cash income, are mature companies with an often-long track record of dividend payments, and predictable (within reason) capex. Banks and insurance companies too can have fairly steady income streams which make dividend payments steady, if not always spectacular. Property-related stocks also have consistent revenue income from tenants and have been favoured among investors for their disciplined dividend policies.

Property developers in Asia are in a unique position to benefit from the strong urbanisation trends in the region. The opportunity to invest in large, liquid, quality developers with low gearing is compelling on many levels. Developers are trading on very attractive valuations, measured by price-to-book, and steep discounts to revalued net asset values, all important metrics in property valuations. Developers, too, offer some attractive income opportunities in their own right, with strong and sustainable dividend yield a key investment criterion.

Meanwhile Real Estate Investment Trusts (REITs) remain attractive and relevant to investors in Asia because they are long-term dividend products. REITs are able to generate better yields given the mandatory distribution regulations inherent in their structuring. Strong capital asset markets in Asia Pacific lend support to their book values. REITs tend to be viewed as alternatives to bonds and good in mildly inflationary environments – where rents can grow faster than interest rates. Supply dynamics are also important and, so far, we see quite stable and predictable supply/demand matching in many of the Asian markets.

There are also less obvious good dividend payers in the Asian markets that investors may not realise. Some industrial names have a good track record of dividend yields above 5% while tech hardware companies also have established track records of paying at or above benchmark yields.

Both these sectors are not traditional yield-paying ones but here in Asia, they go to prove the point that if investors dig just a little, they’ll find plenty of good dividend payers.

Long-term trends favour Asia

Over the long-term, there are other factors at play that could see dividend payments maintained or even increased, certainly in breadth, if not in depth too. For one, demographic changes in Asia mean that an older generation will need to be provided for by investments made today, and the channel for that in the equity market is via cash dividend payments from stocks.

We have already seen this shift happen in one country in Asia - Korea. There, those who fought, and indeed those who were widowed, in Korea’s war in the early 1950s are now at retirement age and have medical and housing bills to pay. This has meant the stock market, which facilitated the drive for industrial growth in the 1980s and 90s, has given way to the need for extra income – and those high-growth companies of 20-30 years ago now pay for this in terms of dividends to the state’s coffers.

The same trend happened in Singapore, albeit for different reasons, but the result is identical: Singapore is now one of the highest dividend payers in Asia. And the trend is only set to continue. The demographic shift in Korea will likely be mirrored in China and elsewhere in Asia, so we think the idea of Asia being the centre of the dividend paying world should continue.