There is never a dull moment when it comes to European markets. Following the hints that Mario Draghi dropped at Jackson Hole a couple of weeks ago, the European Central Bank (ECB) has now taken further action in light of stumbling growth statistics through the summer and weak inflation (0.3 per cent) in the eurozone.
The main ECB rate is now as close to zero as it can get, the deposit facility rate is negative, and there are plans to start buying asset-backed securities from financial institutions. This can be good for government bonds, corporate credit and is potentially very good for European equities, given a lower euro – which will improve competitiveness – and lower funding costs.
Given the paucity of yield available from bonds, the search for yield will continue and European equity income remains very well placed.
In spite of the equity market rally over the past two years, the relative yield attraction of European equities versus bonds is as attractive as it has ever been, with a forecast market dividend yield of more than 3.5 per cent. German two-year bund yields are negative.
The potential for dividend growth from Europe is therefore driven by: the rebasing of dividends from the traditional dividend-paying sectors over the past few years, and hence a lower risk of dividend cuts going forward; the potential for further clarity around capital requirements for the banks following the comprehensive assessment and therefore increasing cash returns; and the cash-generative nature of European companies that continue to grow, take market share and/or restructure.
Various companies will continue to deliver attractive dividends, while Europe remains a fertile environment for investors to continue to capture and diversify dividend income.
For example, Finnish non-life insurance company Sampo continues to deliver a high and sustainable dividend. Its strong management team, market positions and value creative approach have delivered compound annual growth of 15 per cent dividend in the past five years and it still yields 4.5 per cent.
Spanish retailer Inditex has a strong global position and its intelligent approach to value creative growth means it can generate cash to increase its dividend at a premium to the market.
Finally, Nokia may not seem the most obvious income stock. However, the Finnish company is transforming itself post the sale of its mobile handset business, with a focus on maximising the value of its remaining businesses.
Since the disposal, Nokia has reinstated its dividend, paid a special dividend and is in the midst of a large share buyback programme.
Overall, the message is the same as it has been for the past four or five years: dividends remain a key driver of the total return from equities.
So while Europe drags itself out of the post-financial crisis malaise, and implements wider fiscal and structural changes, income will eventually start to grow again.
Will James is investment director, European equities, at Standard Life Investments
