Finding income in the current climate has become extremely challenging with bond yields falling to around record lows and defensive companies on extremely high valuations.
Despite this, there are other areas investors should look at to find income, according to professionals at JP Morgan Asset Management.
Thomas Buckingham, co-manager of the JPM Europe Strategic Dividend fund, said: “We’re in a world today where we were ‘lower for longer’ in terms of rates.
“Clearly cash doesn’t yield what it once did, sovereign bonds, investment grade corporate bonds are all yielding much lower than their long-term averages. What that has meant is investors have had to rethink their process in terms of where they see yield.”
As the below graph shows, global bonds have risen 29.14 per cent so far this year while equities, led by the ‘expensive defensives’, have gained 24.34 per cent.
Performance of indices in 2016
Source: FE Analytics
“There tends to be this preconception that buying an income strategy is akin to essentially pursuing a defensive, bond proxy-type investment process,” the manager said.
“If you cast your minds back to the last 10 years or so and think about the market environments that we’ve experienced, you’ve had a lot of opportunities for investors to take a step back and say ‘I want to take a bit less risk and pursue more defensive names’ and that made perfect sense because some of these names offered really attractive dividend yields.
“What we’ve seen as a consequence is this flight to safety has actually led to a lot of sectors looking overbought in our view.”
Looking at the market in Europe, Buckingham says now is a good time to consider adding unloved European equities, as they remain undervalued.
“Are we in a bubble today within European equities? The answer to that question is absolutely not. We’re essentially in a world where European equities are yielding 3.9 per cent so it’s an attractive dividend yield, but actually looking at balance sheets, they are as healthy as they have been at any point since the financial crisis, so we think there is scope for income to grow from here.”
European equities have lagged for a number of years, beating only the FTSE All Share over a three-year period, as the below graph shows.
Performance of indices over 3yrs
Source: FE Analytics
While the S&P 500 has returned 63.25 per cent over three years, the best performer during the period, the MSCI Europe ex UK has delivered returns of 22.55 per cent.
However, Buckingham says after a shift in investor sentiment, with many choosing not to follow the herd but looking for unloved names and hidden gems to capitalise on opportunities, Europe has benefitted this year.
“As an investor in Europe that has been great for us because it has meant there’s been a lot more focus on European equities as an asset class, when it comes to investors looking to generate income.”
While he condes that the political landscape has deterred some investors, he says they should not be put off when it comes to finding income.
“Whilst it’s fair to say that there are clearly certain risks involved to investing in Europe, largely of a political nature, this is normally the case - there are on average five elections per year in Europe so there is always something going on in terms of the political backdrop - but if you are being paid nearly 4 per cent in a dividend yield to wait for that risk to subside, that’s a pretty attractive proposition in our view.”
Another area investors could consider is the emerging markets, which have been on an incredibly strong run in 2016.
Despite this, Emily Whiting, client portfolio manager of emerging markets and Asia Pacific equities at JP Morgan, says the area remains cheap compared to developed markets.
“Emerging markets are cheap. We have been out of favour for the last few year and we’ve been down through a cyclical counter,” she said, adding that “if you look at high yielding stocks, emerging markets look even cheaper compared to other areas”.
Performance of indices over 5yrs
Source: FE Analytics
As the above graph shows, despite the strong performance of the last 12 months, the MSCI Emerging Markets index has lagged the MSCI World by 69.98 percentage points over the last five years.
Typically emerging markets are used by investors for growth, but Whiting says seeing more and more companies in the asset class are embracing a dividend culture.
“They recognise that dividends are a great example of corporate governance and when you think about investors’ concerns around emerging market corporate governance is often up there.”
“So dividends send out a very strong message to the market and are a great proxy for corporate governance.”
However, it is important to know where to look within the emerging markets, with companies in countries such as Taiwan far more willing to offer a pay out than those listed in Korea, where the culture is very different.
With more than 1,100 companied offering a dividend of more than 2 per cent and 450 paying out over 6 per cent, “the key to emerging market investing is to be selective”, Whiting said.
“The key to us is sustainability – can a company keep paying a dividend without overstretching itself, does it have a stable balance sheet does it have very stable economics,” she added. 
“The beauty about EM is how broad our asset class is in terms of countries and sectors. We probably have over 800 stocks that we are really looking at.”
Highlighting this, she points to Al Rahji, a Saudi Arabian bank that is “very focused on dividends”, Kimberly-Clark, a Mexican toilet paper manufacturer which has grown its dividend above inflation for the last 20 years, and Fuyao Group, a China A share company that makes replacement windscreens and yields 4.5 per cent.
However, while this impressive, and both Buckingham and Whiting make cases for their respective asset classes, Olivia Mayell, client portfolio manager of multi-asset solutions, says the key is to diversify.
“When we think about income we think there are three things you have to bear in mind but for investors it’s the order in which you worry about them,” she said.
“If you’re just focused on return then you’re going to be thinking that the equity market is your starting point. If you just focused on yield, you’re probably going to be thinking that the high yield and some of the more esoteric areas such as the US illiquid fixed income market are for you.
“And if you’re just focused on risk then maybe you’re not getting the levels of yield that actually people need to be able to get through the year in order to meet their objectives, so it’s a balancing act.”
She adds that the multi-asset team is high on both the emerging markets and Europe, but says now more than ever, investors have to diversify their portfolios in order to achieve the best results.