Monday 15 April 2013

Investing for Income - Part 2

Last week I started off this series looking at individual shares. In this second part I will look at the use of investment trusts. Some years back, I decided to run parallel portfolios for income - one using  shares and the other using investment trusts. The core of the IT portfolio is set out in this recent post.

Using Investment Trusts for Income

I prefer to use trusts rather than funds (OEICs) as they usually have lower costs and the income is more predictable. Investment trusts have the ability to hold back up to 15% of income in the good years and use these reserves to maintain dividend payments in years when income from the underlying holdings is not so good. The effect is to smooth dividend payouts over a number of years.

Many investment trusts have a record of paying steadily rising dividends over decades. For example, City of London has paid increased dividend payments in each of the past 46 years, for Bankers from the global growth sector it is 45 years, Temple Bar and Murray Income are both in their 29th year.

                                                      Criteria for Selection

My plan was to put together a ‘basket’ of around 10 to 12 investment trusts based on the following-:

* As with the shares portfolio, the starting yield should be above the level of the best cash deposit account - so currently above 2.75%.

* A rising level of dividends over the past 5 years (at least) and preferably much longer.

* Diversified - sectors include UK growth & income, UK growth, UK smaller companies, international growth, international growth & income, Far East, North America and finally, UK high income.

* Low ongoing costs (formerly total expense ratio).

* The trusts market cap should be a reasonable size, generally above £250m.

* A decent level of revenue reserves - preferably over 100% of dividends paid in the previous year.

* A good and consistent level of total return over 3, 5 and 10 years compared to other trusts in the same sector.

* A modest level of gearing - probably under 10% but the lower the better.

Most of these criteria can be gathered from the AIC website  or Trustnet but for some, such as revenue reserves, you will probably need to check out the latest annual reports.

Buy & Hold Strategy

As with my shares portfolio, the basic idea is to buy around 10 to 12 investment trusts and hold for the long term - maybe the next 20 to 25 years. The core portfolio is more or less complete - as with shares, I maintain a watchlist of half a dozen ‘reserves’ which may come into play at some future time. In fact, one of these reserves, Aberdeen Asian Income (AAIF) was purchased in the past week.

Again, there is not a great deal to be done but sit back a collect the dividends and monitor the half yearly and annual reports. As an income investor, the main thing I look for is a gradually rising dividend to keep pace with inflation. In the past year the average uplift in payouts was just over 5% whereas with the shares it was more like 12%.


One of my criteria for selection is choosing trusts with low charges - some ITs such as City of London, Law Debenture and Bankers have costs of around 0.4% and compare favourably with some of the low cost trackers.

With some of the smaller investment trusts - say those with a market cap below £200m - the costs tend to be a higher percentage as they are unable to benefit from economies of scale compared to the larger trusts such as Murray International and Edinburgh.

Not only are ongoing charges generally lower than OEICs - around 0.5% to 1% less, but portfolio turnover rate (PTR) is usually lower. The average PTR for OEICs is around the 60% mark - this can add a further 1% to the ongoing charges - as a rule of thumb, add 0.2% in charges for every 10% of portfolio turnover. With investment trusts, the PTR is usually quite a bit lower and on my particular portfolio and adds less than 0.1% to overall charges. (PTR does not have to be disclosed and is not included in the ongoing charges).


As with my individual shares, I do not measure performance of the investment trusts against any particular benchmark. I do, however compare performance against my portfolio of shares - the object being to see if I can beat the professional investment trust managers. Over the 3 years that I have been running the comparison, the trusts have so far always managed to keep their noses in front.

In 2012, investment trusts delivered a total return of 11.5% for the year compared to 9.5% for the shares portfolio (the FTSE 100 TR was 10%)

A more detailed step-by-step guide on this approach to generating income is contained in my ebook "Slow & Steady Steps..."

In the third and final part I will take a look at the use of fixed income.

first swallow spotted yesterday - must be summer!


  1. John, great blog.
    I have a question about investment trusts.
    I am looking to invest a sum of money into approx. 10 investment trusts (with higher yields than high street savings accounts).

    You have alluded to low charges/ongoing charges, but I presume you have not taken into account any additional charge for the purchase of the trusts.
    These can have an impact when buying these on a share dealing site.

    So my question is did you invest across these investment trusts on a 'drip-feed' basis or were they all bought individually using one large amount via a share dealing site.
    It's just that I see that 'halifax sharedealing' offers a 'regular investment' option with more reasonable charges.

    thanks Matt

  2. Hello Matt,
    At the time of purchase, the ITs were purchased as a one off - £9.95 dealing fee. If you can take advantage of the regular investment fee, that would be good - especially as the share prices have seen strong gains in recent months. Be aware though that you may find the strike price is a little higher as the deals are done in early trading - IT spreads tend to get better in the afternoon. But over 10 or 20 years its not going to be a crucial factor!

    Good luck with your investing.