Premier picks European telcos for yield

LONDON (Reuters) - Premier Asset Management is overweighting continental European telecoms companies and other utilities for yield in its Optimum Income Fund, seeing the potential for strong cash generation.

"The UK utilities don't create enough free cash flow to be interesting because they are forever investing," said Chris Wright, manager of the fund, previously the UK-focused Premier Dividend Fund. "You don't get much dividend growth."

Wright joined Premier in September 2008 after leaving Thames River Capital to develop a more dynamic strategy for the former UK income fund. The revamped fund is now pan-European, and Wright uses options to enhance the income generated.

He currently has an 18 percent exposure to telcos such as Telefonica (TEF.MC), KPN (KPN.AS) and France Telecom (FTE.PA), and a 10 percent exposure to other utilities including Portugal's EDP (EDP.LS) and Italy's Terna (TRN.MI).

EDP is currently on a 5.6 percent yield and Terna on a 6.7 percent yield, with dividend growth seen at 10 percent and 5 percent, respectively, he said.

The fund, which has 9.2 million pounds under management, invests in about 30-40 stocks with an average yield of 4.5 to 5 percent. Wright will also write call options to add an extra 3 percent of income.

With market volatility high over the last 12 months the fund's yield since launch at the start of October 2008 is now nearly 16 percent, well above the target yield of 7.5 percent, but Wright said he did not expect this to continue.

"We don't use options to gear the portfolio, but because the expected volatility has been so high we have been able to get a better price for our options," he said.

As volatility has now reduced, the premium derived from the sale of options, which had contributed to the fund's income, has also fallen.

Current picks include Spanish stock exchange Bolsas Y Mercados Espanoles (BME.MC), which has performed well over the last month due to rising stock prices and recovering volumes, and mid-cap Smiths News (SNWS.L), currently on a yield of 5.6 percent, with about 5 percent growth in the dividend, he said.

Smiths News is a UK newspaper and magazine wholesaler operating in an effective duopoly with only 50 million pounds of net debt and free cash flow of about 27 million pounds per annum. "It's a cash machine," said Wright.

He is currently underweight industrials, not seeing enough high yielders there and says opportunities have also declined in European banks. "I sold BNP Paribas (BNPP.PA) and SocGen (SOGN.PA) after the yields ran down. But Banco Santander (SAN.MC) has performed very well."

(Editing by Will Waterman)