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High Income

Funds in this sector do what they say on the tin – they aim to pay a high income to investors.

Kate Marshall - Senior Investment Analyst
19 February 2021

Funds in this sector do what they say on the tin – they aim to pay a high income to investors.

There’s more than one way to try to achieve this though, and funds can use different approaches and invest in different areas.

Some funds focus on bonds. These tend to pay a fixed rate of income, but the amount varies depending on the risk associated with the investment. Government bonds are perceived to be lower risk and pay a lower income to reflect this. Corporate bonds offer higher yields because of the extra risk taken for lending to companies. Bonds can be less volatile than company shares, but offer less potential to grow your income and initial investment.

Other High Income funds focus on dividend-paying shares and offer more potential for long-term growth. The UK has tended to be one of the highest-yielding markets in the world, so that’s where a lot of income managers focus their attention. There’s an increasing number of overseas companies that pay dividends as well though, which means High Income funds which hold these offer investors diversification away from the UK.

There are also High Income funds with the flexibility to invest in alternative investments. In addition to shares and bonds, they might also invest in currencies, property or commodities.

Remember investments and the income they produce can fall as well as rise in value so you may not get back what you invest, and they should be considered for the long term. Income will vary and doesn’t provide a guide to the income you’ll receive in future. This should not be viewed as personal advice, so please seek advice if you're unsure.

Our view

We think funds in this sector are a great choice to potentially get paid a high income.

Interest rates are still at historic lows and unlikely to rise significantly in the short term. So the prospect of an income from some of the world's more successful companies, or areas of the market, is attractive for investors willing to accept the risks.

But the risks are greater if you only chase the highest yields, or invest in a narrow range of high-yielding investments. This creates a higher hurdle to grow your income each year, and sooner or later it could become unsustainable.

In our view it’s important to balance a high income, dividend growth, and the aim to grow the value of your investment. It’s not easy though, which is why we think it makes sense to invest with professional fund managers with good track records.

It’s worth considering where each fund invests and what it tries to achieve. Some funds have more flexibility than others, so they may change where they invest over time depending on where they find the best opportunities for income. Overall, we think these funds could help maximise the potential for a high income, or be used to diversify a wider income portfolio.

Investment notes

Please remember past performance is not a guide to future returns. Where no data is shown, figures are not available. This information is provided to help you choose your own investments, remember they can fall as well as rise in value so you may not get back the original amount invested.

Wealth Shortlist funds in this sector

Funds chosen by our analysts for their long-term performance potential

See THE WEALTH SHORTLIST

Funds in this sector invest in different areas of the market, and some are more flexible than others. This means that performance will vary widely between funds.

2020 was an eventful year to say the least, with the coronavirus outbreak in particular causing volatility in equity and bond markets. Uncertainty and the blow to economies caused significant falls in equity markets at the outset of the pandemic. By late March, a coordinated policy response by global governments and central banks restored investor confidence, and most markets saw a sharp recovery that continued over the rest of the year. Major share markets including the US, and Asian markets, ended the year significantly higher, implying that investors were optimistic about the outlook for corporate profits.

The pandemic affected companies and sectors in very different ways, creating some clear winners and losers. Some technology-related companies, for example, benefited from the ‘work from home’ and ‘shop from home’ trends, speeding up the adoption of certain technologies (such as Zoom) or further entrenching others (such as Amazon, and Netflix). By contrast, sectors such as oil & gas suffered from weaker demand and commodity prices, due to the sharp drop in economic activity.

These impacts widened the long-term outperformance of growth over value investing. Higher dividend-paying companies tend to be in the ‘value’ and more cyclical (economically sensitive) category. The announcement of coronavirus vaccines in November did, however, raise hopes of the imminent reopening of economies and provided a boost for some of the more cyclical sectors towards the end of 2020.

The UK share market has a bias to some of the sectors – including financials and oil & gas – that have been worse affected. This contributed to its fall of 7.6%* over the past 12 months. By contrast, US shares ended 2020 at all-time highs, although this owed much to the performance of more growth-oriented sectors, particularly technology, which is well-represented in the broad US benchmarks.

Global stock markets - performance 5 years to January 2021

Past performance is not a guide to the future. Source: *Lipper IM to 31/01/2021.

Asian share markets were among the best performing in the past 12 months, with Asian countries generally taking swifter measures to tackle the coronavirus, and able to reopen their economies more quickly than most Western countries.

Global bond markets - performance 5 years to January 2021

Past performance is not a guide to the future. Source: Lipper IM to 31/1/21.

Bonds are often seen as a safe haven for investors in times of uncertainty, and the major bond sectors all delivered positive returns over the past 12 months. However, they were volatile, and lost money between February and March 2020.

Corporate bonds produced the highest returns among the major bond sectors in the last year. The riskier high yield bond sector experienced the largest losses in March and took until November to recover to where it started in 2020. These bonds are issued by companies that are less likely to be able to pay off their debts and, therefore, they have tended to do less well when the economic outlook weakens.

Income update

We think stock markets should deliver good returns, including income growth, for investors able to take a long-term view.

While the UK share market has traditionally maintained a high dividend yield, this has owed considerably to a relatively concentrated number of blue-chip companies. The pandemic more seriously affected some of these companies – particularly resources companies and banks – and caused significant dividend cuts in 2020, deeper than in markets such as the US and continental Europe.

Compared with 2019, 2020 UK headline dividends fell by an estimated 44%. The financial sector and the oil sector – which together contributed over 40% of UK dividends in 2019 - accounted for a big share of last year’s dividend cuts. UK banks were temporarily prohibited from paying any dividends.

Meanwhile oil companies’ dividends were hit by a lower oil price and are thought by many analysts to be unlikely to recover quickly. Even as and when profits recover, oil companies may be among those who opt to ‘rebase’ investor expectations and commit to paying lower dividends, going forward. According to Link Group, total UK dividends will not recover to 2019’s levels before 2025 – although many fund managers are more optimistic.

Restoration in dividends will partly depend on how quickly lockdown restrictions ease, and economies return towards normal. The UK’s latest lockdown will delay any economic recovery, although many large UK dividend-payers generate a significant level of their earnings offshore, so the re-opening and recovery of other global economies will play a key part.

Many companies that reduced or paused their dividends in 2020 did so out of caution more than necessity and may have the capacity to restore their dividend payments. Banks will boost UK dividends as a whole as they reintroduce dividends, if cautiously at first. Some sectors and companies will bounce back more quickly than others – meaning the recovery in dividends will be uneven. We think this will provide an opportunity for active fund managers to capture higher dividend income than the market, and to avoid ‘yield traps’, or companies with unsustainably high dividend yields.

Dividend yields are a function of market levels as well as dividend amounts. With the UK share market falling by 7.6% in the past 12 months, the current dividend yield for UK equities is currently 3.4%. This is still meaningfully higher than other major share markets, and the yields of many types of bonds.

An increasing number of companies in other markets, like Asia, pay their profits out as dividends. We expect this trend to continue over the long term. So it’s worth considering overseas investments for an income portfolio too. This also gives some exposure to foreign currencies, which can be beneficial if sterling is weak, but the opposite’s true if the pound’s strong.

In terms of bonds, we think government bonds are still useful to diversify a portfolio. But yields are low and the effect of inflation means investors get little reward in the form of income for lending to governments, particularly in the case of developed markets. Corporate bonds, including high-yield bonds, offer more attractive yields for investors able to accept the extra risk. It’s a similar story with emerging market bonds.

Bonds are less likely to offer much in the way of income growth, but they’re a good way to help diversify an income portfolio focused on shares.

Yields of various asset classes (%)
Global high yield bonds 4.3
Emerging market bonds 4.7
European high yield bonds 2.9
UK shares 3.4
Asian shares 2.0
Global shares 1.9
UK corporate bonds 1.5
UK government bonds 0.3

Yields are based on past income, so they aren't a reliable guide to future income. Source: HL as at 31/01/2021.

Investment notes

Please remember past performance is not a guide to future returns. Where no data is shown, figures are not available. This information is provided to help you choose your own investments, remember they can fall as well as rise in value so you may not get back the original amount invested.

Our Wealth Shortlist features a number of funds from this sector, selected by our analysts for their long-term performance potential. The Shortlist is designed to help investors build and maintain diversified portfolios. To use the Shortlist to build your portfolio, you should be comfortable deciding if a fund fits your investment goals and attitude to risk. For investors who don't feel comfortable building and maintaining their own portfolio we offer ready-made solutions, which are aligned to broad investment objectives. For those who want extra help, you can also ask us for financial advice.

The fund reviews below are provided for your interest but are not a guide to how you should invest. For more information, please refer to the Key Investor Information for the specific fund. Remember all investments can fall as well as rise in value so you could get back less than you invest. Past performance is not a guide to the future. The funds in this review take their charges from capital, which could boost income but reduce the potential for capital growth.

There is a tiered charge to hold funds on the HL platform. It is a maximum of 0.45% a year - view our charges. Comments are correct as at 31 January 2021.

Wealth Shortlist fund reviews

Source for performance figures: Financial Express

This fund aims to pay a higher income than many other funds. Shares form most of the fund and have the potential to generate an income and long-term growth. The fund invests mainly in developed countries but also takes some emerging markets risk. Some investments in bonds and cash provide diversification, and could reduce part of the volatility that normally comes with only investing in shares. We think the fund could work well in a portfolio focused on trying to achieve an income, alongside some capital growth. It could also provide some balance alongside equity funds in a more adventurous income-focused portfolio.

Robin Hepworth stepped down as lead manager of the fund on 1 November 2020 but remains as co-manager, working three days per week. Chris Hiorns took the reins as lead manager and has worked with Hepworth for nearly 25 years. The managers continue to be supported by EdenTree's wider Investment Team, which includes a range of equity and fixed interest specialists.

Hiorns and Hepworth share a similar investing philosophy. They prefer to invest in companies that have been overlooked by other investors, and pay an above-average yield. Hiorns continues to implement the same investment process, which involves investing in companies that other investors ignore – possibly because something's gone wrong, or the company's in an unfashionable area – also known as value investing. Whatever the reason, the setback must be temporary and there must be clear potential for improvement. He also adjusts the fund's exposure to shares and bonds depending on his outlook for the economy, and aims to provide a high and growing income. We believe the fund is capable of delivering strong performance over the long term, but there are no guarantees.

This fund is focused on producing a high income mainly by investing in bonds, but it can also invest up to 20% in UK and European shares. A focus on high-yield bonds and shares makes it a little different from most bond funds, though it also makes it a higher-risk option. The fund could be a good option to diversify a conservative bond portfolio, or a more adventurous shares portfolio seeking exposure to other asset classes.

Alex Ralph is the lead fund manager and we think she’s a talented investor with 20 years’ investment experience. We like her flexible investment approach and willingness to change how the fund is invested depending on her views of the wider economy and bond markets. Ed Legget and Paul Casson choose the UK and European shares for the fund.

Ralph has delivered a good level of income since running this fund. Investments in high-yield bonds and shares can increase volatility though. This means the fund might not hold up quite as well as some other funds in the sector when bond markets go through a tough patch.

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In this fund update, Head of Investment Analysis Emma Wall shares our analysis on the manager, process, culture, cost and performance of the ASI Income Focus fund.

Artemis High Income: June 2020 update

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In this newly enhanced fund update, Investment Analyst Joseph Hill shares our analysis on the manager, process, culture, cost and performance of the Artemis High Income Fund.

Investment notes

Please note the research updates are not personal recommendations to trade. If you are unsure of the suitability of an investment for your circumstances please seek advice. Remember all investments can fall as well as rise in value so investors could get back less than they invest.

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