Savers look for solid ground in search for income

FOR anyone needing income from their cash savings, the last three years have been something of a nightmare.

It was in October 2008 that the Bank of England embarked on a series of interest rate cuts that ended with the base rate sinking to a record low of 0.5 per cent in March 2009.

Few would have imagined back then that it would remain unchanged for so long, and the anxiety of savers is compounded by the expectation that there will be no change until the middle of next year at the earliest.

The combination of low interest rates and rising inflation has proved devastating for savers, particularly those reliant on the income from their deposits. It was revealed yesterday that the benchmark consumer prices index (CPI) measure of inflation soared to a record 5.2 per cent in September. The woes of savers have also been exacerbated by the recent withdrawal of the inflation-linked savings certificates from NS&I.

That means many savers previously averse to riskier assets are being forced to explore other options.

Alastair Robson, director of Robson Macintosh, an Edinburgh-based IFA, said: “Inflation is around 5 per cent a year and obviously this means that savers are steadily losing money in high street institutions.

“To obtain a higher income, savers may have to accept a degree of risk, although it could be argued that holding money in banks and building societies are risky enough.”

The search for income from sources other than the traditional bank and building society accounts over the last couple of years has sent demand surging for other income-producing asset classes, including equities, bonds and property funds.

But with equities proving volatile and bond markets similarly unpredictable, it’s not an easy task, particularly for those wary of taking on any extra risk.

Here we look at some of the main asset classes for yield-seekers and pick out the best ways of securing a consistent income.

Corporate bonds

Sales of corporate bond funds have jumped over the last three months as risk-averse investors have responded to market volatility by turning to fixed income.

With concerns lingering over corporate defaults – investors have steered clear of bank debt in particular – there is some nervousness in the sector. But with income of up to 6 per cent available from corporate bonds, and more than that from riskier bonds, the returns are attractive.

High yield (or junk) bonds – which pay out more as they pose more risk than investment grade corporate bonds and government issues – represent an opportunity for those comfortable with the extra danger.

Tom Munro, owner of Tom Munro Financial Solutions, said that while casting the net wider often entails taking more risk, real value can be found in certain parts of the market.

He said: “Recent concern over sovereign debt, and lack of confidence surrounding corporate bonds has caused a large sell-off in recent months from an asset class once offering attractive yields. However, the often overlooked high-yield bond sector can offer some hope, as they have gained more respectability in recent years.”

He believes that for income investors in particular, corporate bonds have an important part to play in any well-diversified investment portfolio, especially if they are held in a tax-free individual savings account.

“Attractive yields of 5.8, 5.97 and 7.62 per cent from the Baillie Gifford high-yield bond fund, Axa’s high-yield bond and Invesco Perpetual’s high-yield bond respectively will add value, especially in the current climate.”

But the current low interest rate environment does pose a risk to bond investors, with any rate rise likely to hit capital values and increase the credit risk.

But he added: “That said, Henderson’s strategic bond fund is distributing 6.6 per cent with the underlying yield being 5.3 per cent a year, while Threadneedle’s high-yield bond fund is distributing 8.5 per cent with an underlying yield of 7.3 per cent.”

Equities

Stock markets may be wobbling but equities remain a key outlet for anyone needing consistent income. UK equity income funds are perhaps the most popular dividend-producing choice for investors, although there are now several income funds sourcing yields from firms across the world.

Ben Seager-Scott, senior research analyst at Bestinvest, said: “Equity income is looking like an increasingly attractive area of investment at the current time, with the recent sell-off driving valuations down. With interest rates remaining low, income-yielding assets are going to continue attract attention and this should provide a level of support for dividend-paying companies.”

He pointed out that while market valuations may be volatile, company earnings are generally good, meaning investors can be confident of dividends that they can either take as income or reinvest to boost growth.

“With many funds yielding well above 4 per cent, investors can get a real return – ie, a return after inflation – even without movement in the share price.”

Seager-Scott recommends the Artemis income fund, managed by Adrian Frost, and the Threadneedle UK equity fund.

Robson also looks towards the equity income sector, picking out two particularly consistent performers: “Newton’s global higher income is paying 4.78 per cent a year and an IFA favourite, the Neil Woodford-managed Invesco Perpetual high income fund, is currently yielding 4.13 per cent a year.”

For those willing to take the risk of investing in companies directly, through shares, several UK blue-chip companies currently yield around 5 per cent gross a year, including Astra Zeneca, Shell, National Grid, Vodafone, Marks & Spencer and United Utilities.

Robson said: “Again, the risk is there, but if one was to take the medium- to long-term view, dividends should be maintained.

“One share outside the FTSE 100 that I quite like for income would be IG Group. They have recently announced good results and I would expect these to continue. The yield is currently around 4.5 per cent a year gross.”

Commercial property

This hasn’t been an investor favourite in recent years, with several funds forced in 2009 to block investors from taking their money out as values plunged by more than 40 per cent.

But commercial property funds can still play a key role as a source of income. Returns have improved over the last year, with the lure of yields of up to 7 per cent hard to ignore in the current climate.

Seager-Scott said: “Yields are looking pretty attractive in commercial property, with returns in UK real estate around 7 per cent a year, though high cash weightings and other factors will bring this yield down.”

Most property funds are paying yields of between 2.7 per cent and 4.5 per cent, with the Standard Life Investments select property, the M&G property and the F&C UK property funds among the higher income payers.

Seager-Scott recommends the M&G property portfolio for investors looking for investment in physical buildings, or the Schroder global property securities fund for investors looking to take exposure through slightly higher risk, but more liquid and nimble, property securities.

Concerns remain over liquidity and the impact of any “double-dip” recession on the property sector, but as a small part of an investment portfolio property can be a useful diversifier and income provider.

Seager-Scott warned: “Investors should remember that the underlying assets can be quite illiquid, which can cause problems should a large number of investors want to withdraw their money at once.”