How to maximise your income returns
Brian Dennehy, managing director at FundExpert.co.uk, highlights the various options available to investors looking to prop up the disappointing yields they are currently receiving from cash.
For investors looking for yield, the first step away from cash deposits should be investment-grade fixed interest funds. These include M&G Corporate Bond
, which is yielding 3.77 per cent, and Fidelity Moneybuilder Income
, which has a yield of 3.95 per cent – around 1 per cent more than the best cash ISA rates.
High-yield bond funds can also provide a source of income, with Kames High Yield Bond
, for example, offering a payout of 6.40 per cent.
It is, of course, important to remember that the capital value of high-yield bond funds tends to follow the sentiment of the wider economy – but a good fund manager should be able to hold the payout if further turbulence lies ahead.
Investors who are comfortable with greater capital volatility could look to equity income funds, but they must learn to focus on payouts rather than obsess over day-to-day movements in capital values.
UK equity income
Asian equity income
- It is important to focus on funds with a good track record of payout growth, such as JOHCM UK Equity Income, which is currently yielding 4.60 per cent.
- Payout growth doesn’t have to mean every stock in a fund must grow its yield. A significant proportion of growth in dividends is coming from businesses “normalising” dividend payouts.
- Schroder Income [4.52 per cent yield] looks to exploit the latter opportunities, which help smooth payout growth for the fund as a whole.
- There are some outstanding UK equity income funds, but to invest solely in the UK is to miss out on some fantastic potential globally.
- We believe the greatest opportunities lie in Asia – not only because of greater profit growth (in the long-run dividend growth must be driven by profits growth), but also because companies in the region are accumulating cash much quicker than they are paying out dividends. They also have much less debt than UK companies and regulatory changes will encourage higher dividend payouts.
- However, we have been told by one fund house with an Asian income fund that there is very little demand for Asian equity income from UK retail investors. Almost all of the demand is coming from discretionary managers, funds of funds and institutions.
- The total fund size of the retail UK Equity Income market is £57.5bn, compared with £2.4bn for the Asian equity income market. Or, to put it another way, each of the top-five UK equity income funds are individually larger than the entire Asian income market.
Investors may avoid Asia because of perceived risk but it is clear they are missing out. Assume a UK equity income fund will increase payouts by 5 per cent per annum, and an Asian fund by 10 per cent. Further assume the current yield on both is 5 per cent.
High-yield opportunities in Europe
- If a 60 year old had a £1,000 payout that grew at 5 per cent a year, it would grow to almost £2,080 by the time they reach 75. However, if the payout had grown at 10 per cent, then by age 75 they would be receiving £4,180 – or twice as much.
- This staggering differential desperately needs to be grasped by UK investors and their advisers.
- We still believe one of the great surprises of this decade will be the extent to which UK pensioners are increasingly reliant on income generated in Asia.
- In our opinion, investors should consider Newton Asian Income, which is currently yielding 5.21 per cent
As for European funds, the high yields are reflective of the fall in capital values. For those who really want European exposure then Ignis Argonaut European Income has a strong income focus and a yield of 5.30 per cent. But investors must not solely focus on current yields. It is also a question of whether that yield is sustainable.
Finance directors have the propensity to cut payouts amid crisis conditions. In 2008 and 2009 this tendency was most pronounced in Europe. Rather than utilising cash piles in lieu of cut credit lines, most continued to accumulate even more cash. Do not be surprised if this repeats itself if the euro crisis again escalates.
Brian Dennehy is managing director of FundExpert.co.uk. The views expressed here are his own.