Enter the “absolute return income fund” – a portfolio with a decent yield and a minimal max drawdown.
Head of research at Whitechurch Securities Ben Willis says finding one of these fabled funds is the “holy grail” for investors, but almost impossible to find.
“To generate a yield you need to take on some risk, so it’s very difficult to do both,” he said.
Indeed, there are no self-proclaimed absolute return income funds, though FE Trustnet believes it has found a small group that have an attractive yield and a proven ability to protect against the downside.
In the IMA Targeted Absolute Return sector, there are currently six funds that are yielding in excess of 2 per cent. Five of these are absolute return bond vehicles, including the Newton Global Dynamic Bond fund, which is currently yielding 3.64 per cent.
The fund attempts to return 2 per cent more than cash over a five year period, by investing for both income and growth.
FE data shows that it has done this and more, with a very low volatility.
Performance of fund and indices over 5yrs
Source: FE Analytics
Though manager Paul Brain tends to run a predominantly long-only portfolio, he has a max drawdown of just 3.07 per cent over five years. This measures the most you would have lost if you bought and sold at the worst possible times.
By contrast, the All Share has a score of 15.94 per cent over the period.
Another advantage is that the fund pays out dividends quarterly, making it an attractive option for low-risk investors who rely on income.
It is also cheap, with ongoing charges of 0.68 per cent.
The other four absolute return funds with a yield in excess of 2 per cent are Threadneedle Credit Opportunities [2.4 per cent], SWIP Absolute Return Bond [2.3 per cent], Schroder ISF Asian Bond Absolute Return [2.19 per cent] and Schroder Absolute Return bond [2.02 per cent].
The SWIP fund has a slightly lower max drawdown than Brain’s portfolio, though only pays out income once a year.
FE data shows that the Newton fund has far and away paid out the most in income over five years, delivering £2,575 worth of dividends from an initial £10,000 investment.
The fund has paid out much more than the majority of bond and equity income portfolios, including popular choices such as Invesco Perpetual High Income and M&G Optimal Income.
Income earned from initial £10,000 investment over 5yrs
Source: FE Analytics
The £9bn Newton Real Return fund is the remaining fund in the sector with a yield over 2 per cent.
With a max drawdown of more than 7 per cent over five years it hasn’t been the smoothest ride for investors, but FE Research says that the fund’s income payments have been extremely stable, scoring 94/100 for dividend stability.
While the IMA Targeted Absolute Return fund is a popular hunting ground for low-risk investors, some across the IMA Mixed Investment sectors have operated with very low levels of volatility.
Moreover, some specifically target income as well.
FE data shows that eight multi-asset funds have a max drawdown of less than 6 per cent over the past five years, and are currently yielding more than 2.5 per cent.
FP Matterley Regular High Income is the pick of the bunch; as well as generating £2,423 worth of income from an initial £10,000 investment, yielding 3.77 per cent and boasting a max drawdown of just 4.34 per cent, the five-crown rated fund has consistently been a top quartile performer in its IMA Mixed Investment 0-35% sector.
Performance of fund and sector over 5yrs
Source: FE Analytics
Managed by FE Alpha Manager Chris Evans, FP Matterley Regular High Income has ongoing charges of 0.86 per cent, and pays out dividends quarterly.
Of the remaining seven multi-asset funds, Jupiter Distribution has the best record on the downside, with a max drawdown of 3.61 per cent, Investec Diversified Income is the highest yielder [4.78 per cent], while Scottish Mutual Cautious has consistently returned the most over the medium and long-term.
Finally, and not for the first time, Nigel Ashfield’s Freehold Income Authorised fund deserves a big mention.
The £209m vehicle attempts to provide a secure and stable return primarily through acquiring freehold ground rents, most of which are in some way tied to inflation.
Income makes up the bulk of the returns but Ashfield and co-manager Stephen Daniels have delivered some capital growth along the way.
They target a 4.25 per cent yield, though it’s currently closer to 5 per cent.
The reliability of the asset class has seen the fund deliver a positive return in excess of inflation for 21 consecutive years, with next to no volatility or drawdown.
FE data shows that the Freehold fund has returned 53.34 per cent over the past seven years, beating the return of the much more volatile FTSE All Share.
Performance of fund and index over 7yrs
Source: FE Analytics
Ground rents funds are extremely illiquid, and investors can only get access to the fund through a certified financial adviser.
Encouragingly returns were unaffected by the financial crisis and it has £32.9m of cash on its balance sheet to help offset the poor liquidity.
It has an annual management charge of 1.2 per cent, and a minimum investment of £5,000.
