‘Inflation is here to stay – and our fund will profit’

James Lowen of JO Hambro tells Jessica Beard that higher interest rates to combat rising prices will be good news for investors in British stocks

Few British stock market funds were hit as hard by the pandemic as JOHCM UK Equity Income. The £2.1bn fund lost 16pc in 2020 and dividends from its stocks halved. Investors, in turn, withdrew their savings.

However, the managers, James Lowen and Clive Beagles, have since enjoyed a revival in fortunes. Dividends are recovering and returns this year have surpassed 23pc, while rivals and the wider market linger on 16pc. This, according to Mr Lowen, will continue, even though inflationary worries occupy the minds of investors and policymakers alike.

Interest rates will rise some time soon, but he says rate rises will breed a new cohort of dividend heroes among banks and insurers. “Value” stocks, which trade cheaply relative to profits, have made a comeback after years of losing out to “growth” companies. Further inflation will unlock their power, Mr Lowen says.

He tells Telegraph Money which areas of the London market investors should target for the biggest payouts as dividends enjoy their resurgence.

WHO IS THE FUND FOR? The fund invests in British dividendpaying stocks, so it is suitable both for investors who want to grow their money and those who want an income.

WHAT DO YOU LOOK FOR WHEN YOU PICK STOCKS? We want the market leaders: established businesses with strong cash flows. A strong balance sheet is critical as well. And all for a very low price.

Most investors pick stocks they like but overpay. You can have a good stock but if it’s overpriced you’re not going to make any money on it.

We have a target price for each of our stocks. We don’t like ones that trade on a share price that is more than 13 times earnings per share.

If you look at the growth stocks, such as Diageo or Unilever, they cost 25 to 30 times their profits.

INFLATION AND INTEREST RATES ARE RISING – IS THAT BAD? Inflation will run at between 4pc and 5pc next year. Wages are rising by 5pc and this means households shouldn’t be worse off. People have a lot more money sitting in the bank since the pandemic. That will be spent, which will be good for the economy.

Rising interest rates are helpful for “value” companies and the UK stock market has a lot of these. If inflation ends up being sustained rather than transitory, as we believe, then interest rates will be higher. This is the key to changing which stocks make the best returns. Banks and insurers, which a third of the fund is invested in, will do well. Banking profitability is really influenced by where interest rates are, and they are under pressure when interest rates are low.

DO YOU EXPECT THE DIVIDEND RECOVERY TO KEEP GOING? The mood music on dividends is very positive. Our fund’s overall dividend halved last year but this year we have upgraded our payout forecast about four times because the rebound has been so strong. We started the year expecting 37pc growth and it is now up to 63pc.

The fund’s yield is expected to be 5pc next year. The mining sector has been a big driver. One stock in the fund that over- earned in the past 12 months was Rio Tinto because the iron ore price was at unsustainable levels. Our dividend forecast for next year is a bit lower for Rio Tinto and Anglo American, but we expect Glencore to be higher.

WHICH COMPANIES WILL PAY THE BEST DIVIDENDS NEXT YEAR? Dividends in the mining sector will still be very high. They are not spending that much money on expansion plans because they invested quite a lot five years ago. That is what pushed commodity prices down because there was too much supply.

Rio Tinto is earning enough cash to cover what it needs so the excess is coming back to shareholders. That’s why the yield has been so high.

Insurers’ dividends will be another good area of growth. Some of the payouts from Aviva, Legal & General and Phoenix are just ludicrous – they yield up to 7pc.

WHAT HAVE BEEN YOUR BEST AND WORST INVESTMENTS? SThree, a global recruiter, enjoyed faster growth during Covid, as more people were working at home.

The share price has quadrupled from its pandemic lows. We paid an average price of 302p for the stock and it has nearly doubled to more than 560p. The worst, which we don’t own any more, is Hammerson – our only casualty of Covid.

The pandemic sucked the life out of it – it had to have a rescue rights issue. It owns retail property such as Bicester Village and the Bull Ring in Birmingham. We lost a lot of money, and in May last year we had to draw the line.