Case Study: The Unit Trust Dividend Portfolio

Spurred by a question from a reader, this article gives an example of how unit trusts can be used to generate a steady stream of dividends.

One day someone tossed an idea at me.

“Can you give me an example of how unit trusts can be used to create a stream of dividends?”

Well, he didn’t actually put it in those terms, but I’m reinterpreting it as such to suit my needs, which includes not giving advice to someone whose financial background is unknown to me.

But examples, hey, it’s an intriguing question. So in the spirit of exploration, here’s what the historical data tells us about a unit trust portfolio designed with dividends in mind.

Requirements and Caveats

Requirement: A portfolio of unit trusts that pay out regular dividends while maintaining one’s capital.

Caveat #1: No one, not even the fund manager can guarantee you won’t lose money and/or receive dividends. (Caveat to caveat #1: Having said that, there are two funds based on my experience, which have been historically ridiculously good at preserving capital while paying out dividends.)

Caveat #2: Any and all observations made are based on historical data, which makes no statement about what the future might bring.

Selecting Ingredients

I can think of two funds that I would feel comfortable putting into a portfolio designed to pay out dividends.

First State Dividend Advantage and Eastspring Investments MIP A or MIP M (A = Annual dividend, M = Monthly dividend). Why these two?

Wins vs Loss: Rolling 12mth periods, from end-2005 to end-May 2012
Measure	Eastspring Investments MIP A	First State Dividend Advantage
# loss	547	559
# win	1279	1267
total #	1826	1826
% loss	29.96%	30.61%
% win	70.04%	69.39%
max win	41.87%	64.83%
max loss	-28.23%	-48.32%
mean win	13.18%	23.73%
mean loss	-10.41%	-19.98%

To give some idea of how these two funds perform, I look at rolling 12-month period. This is a moving measure of all 12-mth periods within a state time range (end-2005 to end-May 2012). Over that time, both funds tend to have positive periods (#wins) more often than negative periods (# losses). 

Average performance tends to balance out for Eastspring, and tends to be positive for First State DivAdv. In other words, over 12-month holding periods, you’re more likely to see positive returns than negative returns. Take note of the worst drawdown too, so you can mentally steel yourself for when the bad times come.

In short, after looking at the returns and risks, these two funds seem to have a consistent approach that beats the market in the long term.

Putting it Together

For simplicity I’ll go for a 50-50 equity-bond split. This diversification is important, not only because it gives access to two assets, but also because dividend payouts (which are not guaranteed) have been historically made quarterly and yearly.

First let’s plot the portfolio including dividends.

Performance looks quite good over the timeframe stated. I’ve used the MSCI World Index (all-equity index) to serve as a comparison. No it’s not a fair comparison, because the two-fund portfolio is a mix of equity and bonds. But the point is the advantage of having a two asset portfolio over a single asset portfolio.

So what happens when we strip out the dividends from the equation?

Chart looks pretty ok, the portfolio with dividends paid out still managed to beat a pure-equity index. But how bad are the bad times?

If we assume dividends are paid out, then it becomes a question of whether the initial capital is preserved. Based on the past 6 years or so, the portfolio would have gone as far underwater as -41% in a single year.

Wins vs Loss: Rolling 12mth periods, from end-2005 to end-May 2012
	2F noRe
# loss	842
# win	1135
total #	1978
% loss	42.57%
% win	57.38%
max win	45.73%
max loss	-41.62%
mean win	14.34%
mean loss	-13.27%
Star/End CAGR	0.66%

Over the 6+ years we looked at, the portfolio does manage to hold its return steady, at 0.66% over the end-2005 to end-May 2012 data.

All About The Cash Flow

That just leaves us with the actual dividend payments. For simplicity, I’m using the declaration date and the payout per unit. Assuming the portfolio of Eastspring Investments MIP A and First State Dividend Advantage has 10,000 units each, this is roughly the payouts amounts declared.

Dividend payouts for the MIP have remained fixed at an annual 0.05c/unit, while DivA pays out quarterly.

The big caveat to all of this is, of course, dividends are made on the discretion of the fund manager, and are not guaranteed in any way. Much like one’s career, which these days is far more volatile than one would like.

So yes, a portfolio of unit trust has historically been shown to provide a steady stream of dividends. Will it do so going forward? I certainly don’t know, in theory at least, it’s possible.