Generating income is paramount for the majority of global investors but most investors are also disappointed with their income returns, the Legg Mason Global Investment survey has revealed.
The survey, which looks at the investment attitudes of 4,000 high-net worth investors from around the world, showed income is important or extremely important for 71% of investors, up from 69% last year. However, satisfaction with income-producing investments remains relatively low: only 9% are very satisfied, with 59% somewhat satisfied.
This is largely as a result of an increasing gap between actual and hoped-for return on income investments, which itself has widened since the previous year, expanding from a 2.8% deficit to one of 3.3% this year. The trend was not universal, with some markets such as the US doing better, but it was a global phenomenon.
Income Sources Under Fire
Traditional income sources have also been under fire. Market-maker Winterfloods issued a stark warning earlier this month that income trusts might come under pressure if interest rates were to rise.
The group pointed to high premiums at which many income trusts were trading – at the end of February, trusts paying an income of more than 5% were trading at an average premium of 3.4% to net asset value. This is a sizeable shift from the average discount of 4.8% in January 2013. If the income on these trusts were to become less valued by investors – as it would in a rising interest rate climate – these premiums could reverse.
Equity-income managers have been forced to defend themselves against accusations that the sector is over-valued. For example, Ruffer's Steve Russell has said that a bubble may be forming in the income sector and the most highly-rated stocks may struggle to meet earnings expectations. The natural staple of an income portfolio – fixed income – is likely to be held back by the prospect of rising interest rates for some time.
Esoteric Options Favoured
Investors are increasingly turning to more esoteric options. The price investors usually have to pay for higher income is liquidity and as a result many options available to investors are structured as investment trusts. In such trusts, the pool of assets is fixed, so fund managers do not have to manage inflows and outflows and it is therefore easier to manage illiquid assets.
This has been more apparent in the fixed income arena with the launch of investment trusts focused on convertibles, such as the JP Morgan Global Convertible Income Fund (JGCI), or floating rate notes, such as the range of trusts from TwentyFour Asset Management. Emerging market bonds are another developing asset class and groups such as PIMCO and Aberdeen have launched dedicated funds in this area. So called ‘catastrophe bond’ funds such as the GAM Star Cat Bond fund have also proved popular. CAT bonds are debt securities that transfer the risk of catastrophic events from insurance companies, reinsurance companies, corporations, governments, etc. to the capital markets.
The other option has been commercial property. John Chatfeild-Roberts, head of Jupiter's Merlin multi-manager team, has recently invested in commercial property for the first time in a decade, making an investment into the Mayfair Capital Commercial Property Income trust. However, yields are low and moving lower. Again, investors are looking to alternatives in the sector for higher income, notably the loans market, with trusts such as the Starwood European Real Estate Finance trust (SWEF) attracting considerable backing.
Until interest rates rise and drag fixed income yields higher, income investors are increasing likely to find themselves in more unusual asset classes in an attempt to mitigate the growing dissatisfaction with income returns.
