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Building retirement income using investment trusts

As investors consider their options around pension freedoms, the figures reveal a compelling case for investment companies to be considered as part of a long-term income portfolio, says the AIC’s Annabel Brodie-Smith

The Consumer Prices Index remains unchanged since this time last year, leaving the rate of inflation at 0% for the first time since records began. Now might seem an odd time then to take a look at investment company performance in relation to inflation. However, despite our lack of a crystal ball, it’s fair to say that an income that surpasses inflation rates is always going to be attractive to long-term investors, regardless of the current situation.

Recent AIC research on the performance of the UK Equity Income sector has revealed that £100,000 invested into the average investment company in this sector on 28 February 1995 would have generated an initial annual income of £3,824 by 28 February 1996. This would have grown to an average annual income of £5,803 ten years later, and £9,344 per year by 28 February 2015. Furthermore, the sector’s annualised average dividend growth was 4.82%, some 2% ahead of inflation (annualised RPI inflation over the period is 2.84%). Over twenty years, investors would have received an impressive £130,071 of income from this investment.

Meanwhile, even without this income being reinvested, the capital value of that £100,000 would have reached £155,555 over a decade in the average UK Equity Income investment company. Over fifteen years, the original investment would have increased to £159,745, and over twenty years to 28 February 2015, the initial investment would have more than doubled to £260,259, an increase of 160%.

The long-term income and growth advantages of investment companies are well known to fans of the investment company sector. They can hold back some income in good times in order to pay it out in leaner ones, enabling them to maintain or even increase their dividend yields even in difficult times. The closed-ended sector has access to a wider range of investments, and these assets like commercial property, infrastructure and renewable energy can generate a higher income. Investment companies have the ability to pay dividends out of the profit they make when buying and selling investments, rather than just from the income they receive. Research among active investors reveals these features are also increasingly well recognised.

When asked to choose between open-ended funds, investment companies or ETFs, some 46% of individual investors registered as users on Morningstar’s website thought that investment companies were the most likely to deliver a consistent, high or growing income in retirement. A further 27% opted for open-ended funds, whilst 11% preferred ETFs. Some 16% felt it made no difference. From a growth perspective, investment companies also came out on top. When asked to consider which would deliver the best long-term returns in a pension scheme over 20 years, respondents were most like to favour investment companies (46%) followed by open-ended funds (22%) and ETFs (17%), with 15% believing it made no difference.

Furthermore, in the AIC’s investor survey last autumn, when asked what might discourage them from buying an annuity, 72% of respondents cited the impact of inflation and 67% the inability to pass anything on to friends and family when they die. Of course, an investment company is a very different animal to an annuity, there are no guarantees and both income and capital are at risk. But for those who can accept the risks, these figures make a compelling case for investment companies to be considered as part of a long-term income portfolio.

AIC Equity Income table May 15


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