The decision by BHP Billiton and Rio Tinto to slash dividends has left some investors shying away from the big miners, as payout ratios are set to drop to their lowest level in more than a decade.
The move by the global miners to dump their progressive dividend policies has resonated strongly with the broader market, as it comes amid a prolonged downturn in the commodities sector that has severely impacted their balance sheets.
But the implication of that decision is forcing many dividend yield-focused income funds and self-managed super funds to sell out of these stocks.
"It is a pretty challenging environment if you are a yield investor. There are a few big companies cutting dividends," said Don Hamson, managing director at Sydney-based Plato Asset Management.
The problem for yield investors has been compounded by most energy companies, including Woodside Petroleum and Origin Energy, also warning of sharp cuts to future dividends, as the collapse in oil prices threatens their profits and cashflows.
While he declined to comment on individual stocks, Mr Hamson said Plato, which runs four income funds, had cut its allocation to the energy and materials sectors.
Despite being perceived as growth stocks on the back of a decade-long mining boom, BHP and Rio's steadily rising payout ratios in recent years have proven to be a strong temptation in the yield-focused Australian market, according to Motley Fool investment advisor Scott Phillips.
Compared to a gross yield of 2.4 per cent in 2006, the yield on BHP shares had jumped to 8.6 per cent, a decade later. A slump in its share price since late 2015 resulted in BHP's dividend yield surging to 15.7 per cent in January.
Similarly Rio shares, which averaged a gross dividend yield of 3.7 per cent in the past five years, saw yields climb to 10.9 per cent in January.
The announcement by the two companies in February that future dividends would be tied to underlying profit means that payout ratios are suddenly set to tumble to decade lows.
"Given that a lot of SMSFs and income funds invest on the basis of yields, the current yield for BHP and Rio doesn't make the cut," says Credit Suisse equity strategist Hasan Tevfik said.
He estimates that BHP, which slashed its first half payout by three quarters, will likely deliver a 1.7 per cent dividend yield, which compares poorly even with the 2.5 per cent returns on government bonds.
Income fund managers are trying to respond to the uncertainty by following a more active investment strategy, and setting their sights on a wider group of stocks to ensure stable returns.
They point to a slew of smaller companies, including Blackmores, Caltex, Perpetual and Select Harvests, which delivered bumper dividends during February's profit reporting season.
Other, larger funds however remain focused on overall returns.
"Dividends are important, but they are not the basis of our investment," says Sam Sicilia, chief investment officer at the $17.5 billion industry super fund Hostplus.
"You do look for higher dividends in a low-yield environment, but we mostly look for capital gains."
