VIDEOS | October 2018
Apu Sikri: Jim, as the principal investment officer of Capital Income Builder — which is one of the largest dividend-growing strategies out there and a flagship strategy for Capital — how do you think about the dividend-paying and the dividend-growing universe? Do you think about it in that short-term time frame or a longer term time frame?
Jim Lovelace: As with almost all the strategies at Capital, we take a long-term approach. We can argue about what that means, whether “long term” is five years or 10 years or 20 years. We do start with the question of what will a company’s dividend grow by over the next three to five years. But I would say we're really looking at five to 10 years when we’re making investments.
Apu Sikri: What about the fact that in the U.S., we're seeing growth stocks continue to grow in market cap and the dividend-paying and dividend-growing universe become a smaller percentage of that market? Does that perforce take you outside the U.S.? How do you think about that?
Jim Lovelace: Capital Income Builder has always had a global approach to the question of dividend growth. When you go back to the 1980s, the markets that were oriented toward dividends were few. Besides the United States, there was the United Kingdom, there was Australia, there was Hong Kong, Canada. And those were the primary markets that Capital Income Builder focused on. But over the lifetime of Capital Income Builder, a lot of other geographies, a lot of other countries, have learned the value of distributing dividends to investors in terms of stabilizing the market and providing superior returns over long periods of time.
So, now continental Europe is one of the best markets for finding good dividend-growth investments. Southeast Asia, beyond Hong Kong, is a very fertile market for companies that have a healthy dividend culture and strong growth. So, the opportunities over the lifetime of the fund have really grown. And now, actually two-thirds of the equities are non-U.S. securities, which is roughly 40% of the fund.*
Apu Sikri: Some investors worry about the potential volatility of the income stream from dividends that are coming from outside the U.S., both in terms of the currency translation as well as the fact that the culture of those companies is to pay out the dividend as a percentage of earnings rather than a fixed payout ratio. How do you think about that?
Jim Lovelace: The goal of Capital Income Builder is to provide a growing stream of income. So, whenever we're making any investment, we have to take into account the volatility of that particular investment. All companies pay their dividends out of their earnings, so the key question at the very beginning is how stable is the income flow? So, whether a company is paying a strict percentage of their earnings or approximating that with a dividend policy, we have to start with the question of how stable are the cash flows that underlie the dividend? That's the essence of dividend investing.
Apu Sikri: And the stability of that cash flow will ensure a certain stability of the dividend payout?
Jim Lovelace: That’s right. If there's instability in cash flows, that is when you start experiencing dividend cuts or dividend reductions. [Insert onscreen bullet: Stability of cash flows is critical to a company’s suitability for Capital Income Builder] So, getting that part wrong — if you make an investment, and the cash flows are not stable — that's when you experience a reduction in income.
Apu Sikri: So what you're saying is that the fundamentals of the company override anything else in terms of
Jim Lovelace: That’s right. You asked about currencies. We have to factor in currency and currency risk. Ultimately, the standard for investment in the portfolio is growth of income to a U.S. dollar-based investor. And so, if there is a risk that the currency will diminish, if not eliminate, the dividend growth, then that's not an attractive investment.
James B. Lovelace is an equity portfolio manager at Capital Group. He also serves on the Portfolio Oversight Committee. He has 36 years of investment experience, all with Capital Group. Earlier in his career, as an equity investment analyst at Capital, Jim covered beverages & tobacco, restaurants & lodging, household products and personal care companies. Jim began his career at Capital as a participant in The Associates Program, a two-year series of work assignments in various areas of the organization. He holds a bachelor’s degree with honors in philosophy from Swarthmore College. He also holds the Chartered Financial Analyst® designation and is a member of the Los Angeles Society of Financial Analysts. Jim is based in Los Angeles.