The credit crunch is good news for one set of people: those wanting to earn a high rate of income from their capital. Almost every investment gives you more than it did a year ago, but with interest rates falling, these high yields may not be available for long.
We’ve signalled several times in recent weeks that the high rates currently available on term deposit savings accounts and fixed rate bonds are unlikely to be available for long. Our best buy table includes several paying over 6.5% for up to four years.
But there are far higher income rates available in other areas. Funds investing in high-yielding bonds currently pay up to 9%. That reflects the higher risk involved - these funds invest in bonds issued by companies which may not be able to pay their interest bills if the business environment gets tougher. So only a rash investor would put all their money in these higher-yield bond funds at present.
How to generate an income
Putting a small amount into the income sector, though, looks like a good strategy at the moment and this is reflected in our latest Income Portfolio, which spreads £20,000 across nine different investments to generate an annual income after tax of £1,028 or 5.14% of the capital value, equivalent to 6.4% before tax for a basic rate taxpayer.
The £20,000 High Income Portfolio
| Investment | Amount | % of total | Gross yield | Net income |
| 3-year Fixed Rate Bond | £2,000 | 10% | 6.6% | £106 |
| Old Mutual Corporate Bond | £2,000 | 10% | 5.9% | £95 |
| JPM Global High Yield Bond | £2,000 | 10% | 8.6% | £138 |
| Invesco Perpetual Monthly Income Plus | £2,500 | 12.5% | 7.7% | £154 |
| New Star Managed Distribution | £2,000 | 10% | 7.3% | £117 |
| F & C High Income | £2,000 | 10% | 7.8% | £125 |
| Skandia Property | £2,000 | 10% | 4.0% | £80 |
| Artemis Income | £2,500 | 12.5% | 4.2% | £105 |
| Schroder Global Equity Income | £3,000 | 15% | 3.6% | £108 |
| Total | £20,000 | 100% | 5.14% | £1,028 |
The aim of the Income Portfolio is not just to generate a high income now but to have scope for some increase in the income and the capital value over the long term. So it doesn’t have all its cash in fixed interest investments.
The breakdown is in fact 55% in fixed interest, 10% in commercial property, 20% in UK shares and 15% in international shares. You can expect the 45% of the capital invested in property and shares to generate roughly a 5% annual increase in income over the long term, so that means that on the whole portfolio, you should get an increase in income that roughly balances out annual inflation at 2% - 2.5%.
All these investments, with the exception of the Fixed Rate Bond, can be bought on fund supermarkets and held in an online account with online valuations and minimal paperwork.
A good time for corporate bonds
As I explained recently, the outlook for fixed rate bonds issued by UK companies is looking good, because the credit crunch led to a massive sell-off that has left these investments looking far too cheap.
The Income Portfolio contains two funds that invest heavily in this area, Invesco Perpetual Monthly Income Plus and Old Mutual Corporate Bond. Two others, JPM Global High Yield Bond and New Star Managed Distribution, invest mainly in riskier higher-yielding bonds which is why they pay a higher income. Both managers emphasise that they are being very cautious in the investments they hold.
F&C High Income has a clever strategy for generating income by owning shares and selling purchase options over these shares to other investors – this has generated very steady returns in recent years.
Real assets for the future
The fixed interest investments provide income now, but that income will stay the same. So the other funds invest in real assets – shares and property - where income should rise steadily over the years.
Skandia Property invests in a mix of offices, shops and warehouses and though rents are likely to stay stable for a year or two, in the long run they should grow along with the economy.
Artemis Income invests mainly in UK companies paying out good dividends, such as BP, Vodafone, Glaxo and HSBC. Though 2008 is going to see an economic slowdown, many of these companies will still pay out larger dividends.
Schroder Global Equity Income invests worldwide in big companies that also pay good divis. Overall, while the value of the investments in the Income Portfolio will fluctuate, these fluctuations need not concern you so long as the income keeps rolling in.
Important Risk Warning
The Everyinvestor model portfolios are for general guidance only and do not constitute a recommendation for any investor. Everyinvestor does not provide individual investment advice. Your own personal circumstances and tax position must be taken into account in selecting investments. We recommend that you obtain advice from an authorised financial adviser before making investment decisions.
The value of your investment and the income from it can go down as well as up and you may not get back a significant proportion of your investment. Past performance is not an indication of future performance.
