Kyle Caldwell selects a range of investment trusts in an attempt to deliver £10,000 of income.
Helen Pridham’s hypothetical £10,000 annual income from investment trust and fund ideas was first introduced by Money Observer several years ago. Following Helen’s passing last year, the portfolios have been taken over by interactive investor’s collectives editor Kyle Caldwell.
Income-paying investment trusts have a particular attraction for investors who want a regular cash flow as they don't have to distribute all the income generated by their assets every year, and up to 15% a year can be retained.
Therefore, if consistency of income is of high importance, then investment trusts may be better than funds, unit trusts or OEICs. Funds are required to pay out all the income they receive each year from the underlying investments.
When there’s an income drought, funds have no option but to cut their dividends, as was the case when Covid-19 emerged, and during the global financial crisis. Most investment trusts, however, retained or increased their dividends, as they dipped into their reserves – or rainy day funds – to keep the income flowing to shareholders.
Research last year from the Association of Investment Companies (AIC), the trade body for the investment trust industry, shows 17 investment trusts have upped their dividends for more than 20 years, while over half a dozen boast more than 50 years of consecutive increases.
In addition, waiting in the wings to become ‘dividend heroes’ are 26 trusts that have increased dividends for 10 or more consecutive years, but less than 20.
Given their ability to save some readies for lean periods, it is no surprise that an important objective for many investment trusts is to provide investors with increasing income year after year, while another aim is to achieve capital growth over the long term.
However, any investor who does decide to put money into investment trusts will need to be prepared for fluctuations in the value of their capital. And of course, dividends being maintained or increased are not guaranteed.
On the whole, investment trusts are riskier than funds, particularly when markets are volatile. This is because worried investors sell, which causes investment trust share price discounts to net asset values (NAVs) to widen. In turn, this pushes investment trust share prices down.
Second, investment trusts have the ability to gear (borrow to invest). Gearing is a double-edged sword, benefiting investors when markets rise, but exaggerating losses when markets fall.
Therefore, it is important to invest for the long term (ideally five years or longer), and to spread your investments across a number of different trusts to gain diversification. This involves selecting different managers and investing in different areas. By spreading risk, there is a good chance that if some trusts lose value this will be offset by gains in others, or that losses one year will be followed by a recovery the next.
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When times are tough and investor sentiment turns sour, as was the case in 2022, investment trusts tend to perform worse than like-for-like funds. This played out for a number of sectors, with equivalent fund sectors outperforming trusts.
However, it is pleasing to see that the 2022 selection of investment trusts aiming to deliver annual income of £10,000 achieved the income goal, and produced a small positive return. The 11 trusts delivered an estimated income of £10,578 from a hypothetical £256,000. In total returns (capital and income combined), £256,000 turned into £256,478.
Having a wide spread of investments paid off. Murray International (LSE:MYI) was star of the show, returning 20.7%. The global equity income trust, managed by Bruce Stout, has been a beneficiary of the change in macroeconomic conditions, which has resulted in sentiment shifting away from high-growth strategies. It has a value focus, and a bias towards Asia and emerging markets.
UK equity income duo City of London (LSE:CTY) and Merchants Trust (LSE:MRCH) were other strong positive contributors, with respective gains of 9.4% and 5.5%. Global dividend trust Henderson International Income (LSE:HINT) also delivered, with a gain of 6.4%. The fifth trust in positive territory was Utilico Emerging Markets (LSE:UEM), up 2.7%.
These gains offset the losses for the six other trusts, including three trusts down more than 10%: abrdn Private Equity Opportunities (LSE:APEO), Diverse Income Trust (LSE:DIVI), and Balanced Commercial Property (LSE:BCPT).
How the 2022 income challenge fared
|Name||Starting Value (£)||Total return one year (to 31/12/2022)||Value at end of 2022 (to 31/12/2022)||12-month yield (as at 31/12/2022)||Estimated income (£)|
|UK equity income|
|City of London||35,000||9.37%||38,281.01||5.06%||1,769.53|
|JPMorgan Global Growth & Income||30,000||-4.95%||28,515.17||3.98%||1,194.96|
|Securities Trust of Scotland||16,000||-0.38%||15,939.86||2.74%||437.68|
|Henderson International Income||25,000||6.40%||26,599.37||4.04%||1,010.14|
|Balanced Commercial Property||15,000||-11.75%||13,237.61||3.38%||506.47|
|abrdn Private Equity Opportunities||15,000||-18.91%||12,163.40||1.99%||298.23|
|Utilico Emerging Markets||15,000||2.66%||15,399.34||3.43%||515.11|
Source: Morningstar. Total return figures are one year to 31 December 2022. 12-month yield as at 31 December, used to estimate income from initial value.
The 2023 income portfolio for the income challenge
The 2022 portfolio had 45% in UK equity income trusts, and 40% allocated to global equity income trusts, with the balance held in three specialist trusts: Balanced Commercial Property, abrdn Private Equity Opportunities, and Utilico Emerging Markets.
For the 2023 portfolio, I want to lower the hypothetical investment amount, and give the portfolio some bond exposure, given that bond yields are at their most attractive levels for over a decade.
I’ve selected 12 trusts, with 40% held in UK equity income, 35% in global/overseas income, 15% in alternatives, and 10% in bonds.
Last year’s hypothetical portfolio yielded 3.9%, requiring £256,000 for £10,000 of income.
Our 2023 version has a yield of 4.9%. Therefore, we need £215,000 to deliver the £10,000 target. Most of the trusts have a 5% (£10,750) or 10% weighting (£21,500), with one 15% holding (£32,250).
The departure of Securities Trust of Scotland has been made to reduce the number of global equity income trusts from four to three. It was a tough decision, as Troy’s James Harries’ cautious approach of investing in resilient businesses would give defensive ballast to the portfolio.
However, both JPMorgan Global Growth & Income (LSE:JGGI) and Henderson International Income (LSE:HINT) have higher yields, of 4%. The duo also have the highest five-year dividend growth among the eight global equity income trusts that exist, of 20.8% and 8.2%.
The other consideration was that Securities Trust of Scotland has 30% in the UK, whereas the other three global equity trusts have very low weightings, or none at all in the case of Henderson International Income.
Given that 40% of the 2023 portfolio is allocated to four UK equity income trusts, greater overseas exposure is preferred.
The trio are joined by Utilico Emerging Markets (LSE:UEM), also in the Super 60, in the global/overseas income category. The trust, which invests in utilities and infrastructure firms, has been handed a 5% allocation. This takes the global/overseas income exposure to 35%.
12 investment trusts for a £10,000 annual income
|Investment trust||Yield (%)||Investment (£)||Estimated income (£)||How often dividend paid|
|UK equity income|
|City of London||5.1||£32,250||1644.75||Quarterly|
|Diverse Income Trust||4.2||£10,750||451.5||Quarterly|
|JPMorgan Global Growth & Income||4||£21,500||860||Quarterly|
|Henderson International Income||4||£21,500||860||Quarterly|
|Utilico Emerging Markets||3.4||£10,750||365.5||Quarterly|
|Balanced Commercial Property||3.4||£10,750||365.5||Monthly|
|Greencoat UK Wind||5.4||£10,750||580.5||Quarterly|
|BlackRock World Mining||6.6||£10,750||709.5||Quarterly|
Sources: interactive investor and Morningstar. 12-month yield date for all investment trusts 31 December 2022.
UK equity income choices unchanged
The foundation of the portfolio consists of its four UK-focused equity income trusts. It is conventional wisdom that investors should have good exposure to their home economy, as this helps to reduce currency risks.
The four choices from 2022 all retain their place, although they have different weightings. City of London (LSE:CTY), which has been managed by Job Curtis since 1991, has a 15% allocation. The trust, a member of the Super 60, is a consistent performer, with Curtis adopting a conservative approach in focusing on companies with good cash generation. It mainly sticks to the dependable, larger-company FTSE 100 dividend-payers.
Its revenue reserves per share account for around 40% of the annual cost of dividends. This should offer some comfort to investors, and its market-beating yield of 5.1% is also attractive. It has raised its dividends for 56 years in a row – a high level of consistency.
Merchants Trust aims to deliver an above-average level of income and income growth, as well long-term growth of capital, through investing mainly in higher-yielding large UK companies. The trust shares five top 10 holdings in common with City of London: Shell (LSE:SHEL), British American Tobacco (LSE:BATS), BP (LSE:BP.), Imperial Brands (LSE:IMB) and Rio Tinto (ASX:RIO).
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However, in my view the portfolios are sufficiently different to hold both for this income challenge. The differences include Merchants Trust having greater exposure to mid-cap stocks in the FTSE 250 index, and City of London making greater use of the 20% allowance to invest in overseas shares.
JPMorgan Claverhouse has a pragmatic approach to investing in both value and growth stocks. It has greater exposure to energy and healthcare than its two sector rivals. Its three biggest holdings are Shell (LSE:SHEL), AstraZeneca (LSE:AZN) and BP (LSE:BP.).
Diverse Income (LSE:DIVI), a member of the Super 60, had a 2022 to forget, given that it has over half its portfolio in UK smaller companies. When investors are cautious, smaller companies are among the first to be sold due to being higher risker than larger companies.
Fund manager Gervais Williams is upbeat on the prospects for the trust going forwards. He says: “Diverse Income Trust’s strategy now looks attractive in comparison to the mainstream stock market in the UK and against some international stock markets as well. When the asset class in question (UK-quoted income stocks) starts at exceptionally low valuations, these kinds of favourable trends can be persistent over long time periods.”
Diverse Income, which has a yield of 4.2%, has a 5% allocation.
The rest of the portfolio
The remaining 25% of the portfolio is held in four funds – with three new entries for 2023.
Keeping its place is Super 60 member Balanced Commercial Property (LSE:BCPT), with a 5% allocation. It invests in a range of UK property assets, from industrial buildings such as warehouses, to offices and shopping centres. The rent it generates is returned to investors on a monthly basis. The trust has been led by Richard Kirby since launch in 2005.
Its huge discount to net asset value, currently over 40%, is arguably pricing in a lot of bad news. If sentiment towards property turns and the discount narrows, its share price will be boosted.
Entering the portfolio with a 10% weighting is TwentyFour Income (LSE:TFIF). This bond portfolio invests in high-yielding asset-backed securities, including mortgages and credit card debt. The end result is an eye-catching yield of 7.4%.
The TwentyFour team point out that asset-backed securities have been “largely overlooked in the recent liquidity-driven market rally and therefore currently represents attractive relative value.” The team add that “a large majority of the securities are also floating rate, thereby offering investors upside to future rate rises”.
While the consensus is that interest rates are near to, or at a peak, it is not inconceivable that central bankers could struggle to contain inflation, which would likely lead to further interest rates rises.
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Greencoat UK Wind (LSE:UKW) is another new addition for 2023, with 5% allocation. As the name suggests, it invests in UK wind farms. A key attraction is that the trust aims to increase its dividends in line with retail price index (RPI) inflation.
The investment trust analyst team at Investec recently reiterated their buy recommendation for Greencoat UK Wind. It said the dividend target for 2023 is expected to be an increase of 13.4%, in line with December RPI. In a note on 23 January, Investec said: “The company continues to generate significant cash flow and this more than underpins its RPI-linked dividend and also allows excess cash flow to be reinvested into pipeline assets.” In addition, Investec points out that its RPI dividend aim has been maintained each year since launch in 2013.
BlackRock World Mining (LSE:BRWM) has also been introduced to give the hypothetical portfolio direct commodity exposure. Natural resources stocks are beneficiaries of inflation. This is because as commodity prices rise, mining and oil stocks make more money. These higher profits are being returned to investors through share buybacks and higher dividend payments. This has resulted in BlackRock World Mining offering a dividend yield of 6.6%. The need to decarbonise and transition to renewable energies is a long-term trend that’s a tailwind for this trust, which owns mining companies involved in battery metals, such as copper and cobalt in the case of Rio Tinto (LSE:RIO) and Glencore (LSE:GLEN).
Bear in mind, however, the dividend yield for BlackRock World Mining is not progressive. In the event of mining companies becoming less generous with their dividend payouts, the dividend will be vulnerable.
These articles are provided for information purposes only. Occasionally, an opinion about whether to buy or sell a specific investment may be provided by third parties. The content is not intended to be a personal recommendation to buy or sell any financial instrument or product, or to adopt any investment strategy as it is not provided based on an assessment of your investing knowledge and experience, your financial situation or your investment objectives. The value of your investments, and the income derived from them, may go down as well as up. You may not get back all the money that you invest. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment adviser.
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