With the current UK low interest rate environment, getting a decent income from your investments is pretty tough and many investors have moved into higher yielding, more risky options in the equity and bond markets.
In March 2009, the Bank of England’s Monetary Policy Committee (MPC) cut its Base Rate to a record low 0.5%. Who would have thought that over two years later, Base Rate would still be at 0.5%?
Rates have been pegged at this level because as the latest data shows, the UK economic recovery remains weak. However, inflation is still running at 4.2%, well above the Bank’s 2% target, and this has an impact on savers, as interest rates are so low.
A pressure group, Save Our Savers, wrote to the MPC about this, pointing out the problems faced by savers and those on fixed incomes. It has calculated that “inflation has reduced the real value of the nation’s cash savings by more than £50 billion over the past 12 months”.
The last couple of years therefore was good news for homeowners with mortgages, but a nightmare for savers.
So what can those investing for income do?
Good income investing is about structuring your investment portfolio with a mix of assets such as cash, equities, fixed interest securities/bonds, collective investments and property to generate the highest possible annual income at the lowest possible risk. Some advisers talk about the 4% rule, that is taking 4% out of your portfolio each year, but this approach has critics as well as advocates.
Instead, if you are investing for income, your starting point has to be to establish what level of income you really need. You can do this via a simple cash flow calculation, looking at your income and expenditure, and work from that. Your cash flow position can obviously change significantly throughout your life, so you will need to review it regularly.
You then need to think about your long term financial objectives, as well as your attitude to risk, plus the need for access to your capital. This will determine which asset classes are the most appropriate for you to invest in.
If you are looking to supplement your current income, cash plus fixed interest securities, such as government bonds, corporate bonds and corporate bond funds are the obvious starting points. With building society rates and cash Isa options looking fairly unappealing, buying corporate bonds through a managed collective investment scheme might be a better bet.
Another option is commercial property. This would provide good diversification from equities and bonds, with little correlation between the asset classes, and so could be a useful part of a balanced portfolio.
Whilst UK property funds have had a difficult time of late, the market seems to have bottomed out and currently commercial property funds have the potential to provide a good level of income relative to cash.
However, in the current marketplace, equities, with high levels of dividend income, and equity income funds look appealing to many. If you are prepared to accept the volatility of the stock markets, looking at dividend producing equities that provide an attractive, growing income, plus offer the potential for long-term capital growth as well, could be a good option.
The major difference between equity income from dividend producing shares and most other income producing investments, including cash, is that your income has the potential to grow, so your investments can keep ahead of inflation.
Historically, over the longer term, equities have tended to rise and have generally produced better returns than cash or fixed interest securities. Usually, therefore, the longer your investment timeframe the more you can invest in growth investments.
However, if your major need is for income plus ready access to your money, sticking to cash and fixed interest investments makes sense.
There is a huge range of income-producing assets available. Choosing the right options for you will depend on your investment objectives, your time scale, your tax position plus your attitude to risk. This is where you need professional independent financial advice, to help you define your financial objectives and to select the right mix of assets for you. With the right help, a decent investment income may no longer be a thing of the past!