The Investment trust income Heatmap

After the initial publication of the 80-20 investor UK income fund heatmap and the Global income fund heatmap members asked for income heatmaps for other assets and fund types.

This lead to the publication of the Alternative asset income heatmaps.

Investment trusts as income-producing funds

However, a popular request was also for the production of an investment trust income heatmap. Investment trusts lend themselves particularly well as vehicles to produce a sustainable income, as demonstrated in 2020, even as companies slashed their dividends. By contrast, income-producing unit trust funds universally cut their income payouts in 2020.

There are a number of reasons that investment trusts are able to produce a sustainable income stream. Firstly investment trust managers are able to hold back up to 15% of their gross annual income in reserve. This can then be used in future to help smooth the fund's income payouts to investors and maintain them year on year. This is something that unit trust managers can not do. On the Association of Investment Companies (AIC) website you can see this reserve for each fund, called the revenue reserve cover. There is an amount quoted in millions of pounds as well as how many years worth of dividend they could afford to pay just from their existing cash reserves (stated in years). The average is around 1.6 years.

In addition, investment trusts can charge some of their fees against capital rather than income and some investment trusts have been given permission to use their capital to pay dividends (i.e. sell assets to fund payouts) if their dividend income is insufficient. This has its pros and cons of course. Pros including the ability to maintain income payouts, cons including a possible fall in the value of the assets in the fund and therefore the investment trust's share price. Bear in mind that it could ultimately mean that a trust that continues to dip into capital would be less likely to maintain its dividend in a falling stock market. But, as you will see from the heatmap below, investment trusts tend to have a far better record of producing a sustainable income than their unit trust peers.

The common mistakes income investors make

Income investors and financial advisers make the same mistakes when trying to build an income portfolio.

They focus purely on current yield
They don't analyse the actual pounds and pence funds pay as income
They don't take into account the effect of inflation
They don't build a portfolio that can provide a rising income into the future that can beat inflation

How to generate a sustainable income from your portfolio

For true income investors, the capital value of their portfolio is secondary. In essence, as long as the portfolio keeps pumping out the required income the capital value is less relevant. So even if markets crash as long as the trusts keep paying out dividends, from income that the trust generates, then the amount that investors ultimately receive, and their lifestyle, will remain unaffected.

So the first rule of income investing is to invest in trusts that will not cut their dividends. The trouble is how do you pick a fund manager who is good at picking shares that are unlikely to cut their dividends when the going gets tough?

Furthermore, if you want your income to maintain its purchasing power then it needs to grow over time in excess of inflation. So the second rule is to invest in trusts that will grow the income they produce year on year. Otherwise your income will not be large enough to keep pace with the price rises of the things you like to buy. So how then do you also identify investment trusts that will grow the income they pay out over time?

How to build the perfect income portfolio

80-20 Investor provides not only the research to help growth investors but also income investors. To empower members to quickly build a portfolio that can provide a sustainable income stream is no mean feat. It takes weeks of research.

The new Investment trust income Heatmap below (click the link below to download) summarises this research into a neat visual aid for investment trusts. The research analyses investment trusts from the following sectors:

IT Asia Pacific Income
IT Global Equity Income
IT UK Equity Income

In addition, I have added a few investment trusts from other sectors as a result of requests from 80-20 Investor members.

The heatmap analyses the actual pounds and pence that investors have received from the investment trusts within these sectors going back 17 years as well as how this income has grown over time. This ensures that the heatmap covers the last period (other than 2020) when dividends were cut en masse (ie the financial crisis between 2007 and 2009). This enables you to judge which investment trusts are most likely to maintain their dividends going forward. The heatmap also looks at the current yield that you can obtain from these trusts and its recent annual growth rate.

It is worth mentioning that different investment trusts pay their income at different times of the year and at different frequencies (monthly, quarterly or yearly). So in order to provide a regular monthly income stream to live off you should create a cash buffer containing 1-2 year's worth of income and invest the rest of your money in an income portfolio. You can then withdraw money each month from your cash buffer to live off while at the same time your income portfolio tops the pot up as and when the dividends are due. In this way at the end of 12 months your cash buffer should be worth a similar amount as it was at the start of the year. So long as your desired income does not exceed your portfolio's yield you will be fine.

One final point to bear in mind is that you should consider diversifying your income portfolio by investing in a range of income-producing funds that hold different asset types from different geographical areas. The other income heatmaps to view are:

How to use the Investment trust income Heatmap

When choosing investment trusts you want to try and choose funds that have:

a decent current yield
that have recent average annual payout growth in excess of inflation (which is currently only around 2%)
have a track record of growing its payout year on year even when other funds have cut theirs.

You can quickly see how the Income Heatmap turns building an income portfolio from an expensive laborious process into a simple and quick job.

The Investment trust income Heatmap

Key: a blue box indicates that the annual payout was higher that year than in the previous year. A red box indicates that the payout was cut compared to the previous year. A yellow box means that the fund payout was the same as the previous year. An empty (white) box means that the fund was not in existence at that point in time.

Download the investment trust heatmap PDF

If a fund is not in the list this will be because it either does not have a sufficient history or size, or is from a sector not analysed.