What is Income Investing?
Income investing is a selection of investments which can offer a stable stream of income over a period of time for the investor to live on. The income investing strategy involves building a portfolio of assets with the goal to produce the highest annual passive income possible. Income investing is a popular strategy to beat inflation with the possibility for high returns.
Why Choose Investing for Income?
Income can take many forms. Traditionally, that has meant interest payments on cash in a savings account but there are other options, such as dividends from company shares and coupon payments from bonds.
Finding income at a high enough level to be useful is challenging. In the UK the current base rate is 0.5%, rising from 0.1% last year but very low compared to history. Interest rates are predicted to move higher through this year however we are a long way from anything that is reasonable. Great news for those with an interest rate tracking mortgage but not for those with cash to invest.
The challenges of investing for income have intensified with fourteen years of interest rates at record lows. The distortion of financial markets induced by quantitative easing and the actions of Central Banks have encouraged investors to take more risk than required when sourcing income. Whereas previously investors could rely on interest on cash balances in bank accounts, many count themselves lucky if they receive anything at all on their cash.
The True Potential Cautious Income Portfolio yields 3.1% p.a. and the True Potential Balanced Income Portfolio 2.9% p.a. net of withholding tax. This is achieved while remaining diversified by region, asset class and investment style. We employ highly skilled fund managers to deliver both favourable levels of income as well as the opportunity for capital generation. Remember, buying companies which improve the level of dividends paid out year after year provides income, but can also provide capital growth over the long term.
The True Potential income managers look to maximise income without stretching for yield. This means that they source income whilst being prudent with risk.
Why are dividends important?
We can use the UK equity market to illustrate the importance of dividends. The chart below illustrates the capital only return i.e. no reinvestment of dividends, and also the total return i.e. capital return plus dividends reinvested.
Chart 1 – UK Equity Market Cumulative Returns – Capital Only and Total Return
An investor starting 20 years ago would have received a 190% capital return by investing solely in the UK market. By reinvesting the dividends received, the chart illustrates the powerful effect of compounding, with over that 20 year period a return attained of 385%.
The above demonstrates why income is such an important feature of return. The investors who chose to reinvest their dividends have more than doubled their return!
Conclusion
Income Investing provides the potential for capital stock growth in the long term, which can positively contribute to one’s wealth over the coming years. Investments that aim to pay out an income are worth exploring for any investor.
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