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Retirement income planning using investment companies

Planning for retirement income is a long-term strategy, which is where investment companies come into their own, argues Jemma Jackson, PR Manager, AIC

It is about six months since George Osborne uttered the words “Let me be clear: no one will have to buy an annuity”. In April these words will become a reality – and so will the single biggest pensions shake up we’ve ever seen.

Of course, some will decide that an annuity is still the best option for them. But even for those that do, many will feel happier simply knowing that this is a decision they are not being forced to make. And for the rest – the vast majority, if our own pensions’ research is anything to go by – there’s going to be some life changing decisions to make with this new found pensions freedom. And that’s where financial advice is going to be key.

First up, the good news: some 44% of the adults surveyed said the forthcoming pension changes made them feel more positive about pension schemes. More than a quarter of those who plan to retire said they were more inclined to increase their pension contributions as a result of the changes.

However, 27% of respondents who plan to retire said they did not know how much of their pension pot they would be willing to invest in an annuity and only 2% said they would be willing to use their entire pension fund to buy an annuity. Inflation, the inability to pass on assets after death and the inability to cancel an annuity were suggested as key reasons discouraging consumers from purchasing annuities. This suggests that many consumers would benefit from good quality, independent advice to help them consider their options and build a tailored portfolio to meet their needs in retirement.

Consistent dividend income

The investment company sector features in SIPP accounts but clearly investment companies could play a greater role in pensions, and they are also a very useful way for advisers to show the huge value independent advice can play. Investment companies have strong long-term performance making them suitable for building a lump sum for retirement. Planning for an income in retirement is also a long-term affair, which is where investment companies come into their own. So it’s not surprising that we are making a big song and dance about investment companies and how they can be used for retirement planning.

Why? Well, it’s only very recently that the Murray Income investment trust in the UK Equity Income sector announced its 40th (yes, 40th) consecutive annual dividend increase. And it is not alone: also in the UK Equity Income sector is City of London, with its 48 year dividend increase record, with the likes of Bankers, Alliance and Caledonia (all Global Growth companies) only one year behind. In total, there are 20 investment companies that have increased their dividends for 20 years or more, and there are countless others with 10-year track records of consecutive dividend rises.

Unique income feature

Yes, this is something we like to talk about in the investment company sector: where else, after all, can you find funds that can squirrel away some of their income each year and save it for leaner times? It’s a unique feature of which the sector is immensely proud, and it is a feature that has done a good many shareholders proud too. There’s nothing that shows a company in better shape than strong dividend reserves and I know that it is something that shareholders find immensely comforting: getting that dividend through both the good times and the bad.

In more recent times, investment companies have also won the right to pay income out of capital profit and it is something that many have sought shareholder approval to do. Few companies have taken their shareholders up on this to date, but it is a useful extra tool for managers and boards to have in their armoury for when those tough times return.

For income seekers looking for exposure to alternative assets, the infrastructure, property and debt-type sectors can be a useful way for advisers to add value and diversity to a clients’ portfolios, although at time of writing demand is strong and it’s important to be mindful of valuations. Certainly many investment companies are issuing shares in an effort to keep pace with demand. And the closed ended structure is particularly well suited to illiquid, alternative assets because managers do not have to sell stock to meet redemptions.

Bumpier ride?

Yes, clients will get a bumpier ride with investment companies, due in no small part to the enhancing effects of gearing. But over the long-term, this has helped the sector outperform (the average gearing level for the sector is currently just 7%). Canaccord Genuity’s most recent comparative research into comparable open and closed ended funds shows investment companies outperforming in 12 out of 15 sectors over 10 years, and 14 out of 15 over 5 years. Over the last more challenging year, the investment company sector is outperforming in 11 out of 15 sectors.

Will investment companies take over the pensions’ world? No. Should more advisers be considering the opportunity provided by investment companies as part of their clients’ pension planning? It goes without saying that we think the answer is yes. The pension changes will be a huge opportunity for advisers to demonstrate the value of good quality advice. And the AIC has backed advisers every step of the way, arguing from the outset that the government should issue vouchers for people to pay for good financial advice to help them with the pensions choices that their pensions freedom will create.

The AIC continues to run our investment company seminars for advisers and we continue to add new online training materials to our website. Please do register on our site – we’d love to meet you at an AIC seminar soon.

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