These are tough times for investors who rely on regular investment income to help pay the bills. With gilt yields at unusually low levels and UK dividends being slashed, many investors will see a significant drop in how much they receive from their investments. To meet its current 4% annual yield target, the LF Canlife Diversified Income Fund is looking further afield for secure sources of income.
Government bonds are the traditional mainstay of cautious income investors but they now offer very low yields. The 10-year gilt yield is just 0.108%, slightly higher than the Bank of England base rate of 0.1%.
At the same time, the UK stock market’s reputation for being home to reliable dividend-paying companies is changing rapidly. At the most recent count, 47 FTSE 100 companies have cut or suspended their dividends this year.
FTSE 100 companies are now expected pay out £62bn in dividends for 2020, down from £85bn in 2018 and £75bn in 2019. Furthermore, the number of big UK dividend payers is dwindling, with just 20 firms expected pay out some 74% of 2020’s FTSE 100 dividends.2 We could therefore see income investors crowding into a smaller number of UK dividend-paying names, and this could increase risk in their portfolios by reducing the spread of investments they hold.
Even the reduced 2020 dividend payments could be in jeopardy. The amount of cash that FTSE 100 companies have available is only 1.4 times the amount they are expected to pay out in 2020 dividends. If COVID-19 cases increase further and keep economic activity low, it is possible that many UK companies will need to use cash to support their businesses rather than paying it out to shareholders.
While it might be tempting to simply wait for things to improve and for dividends to rise again, the scale of the economic shock caused by COVID means that many UK dividend payments might not return to their previous levels.
The UK has long been unusual among major stock markets for its high dividend payments. This has sometimes meant that companies were not investing adequately in their businesses. Many companies will need cash to repair their damaged balance sheets after COVID-19, but some will also welcome it as an opportunity to pay less in dividends and invest more in the future of their businesses.
It’s income, but not as we know it
Rather than focusing mainly on the UK, our solution is to look for reliable income sources from around the world. By increasing the investment opportunities available, we are much more likely to find good income streams.
Technology companies do not generally spring to mind when looking for income investments. However, the technology sector is extremely large and has many different kinds of companies, including established world champions in their respective industries that also pay dividends.
One such example is Microsoft, one of the world’s most successful companies. It pays a small but reliable dividend, enabling us to receive income and also take profits as its share price rises. We can then recycle profits into other dividend-paying investments.
Likewise, TSMC and ASML are two global leaders in manufacturing the semiconductors that lie at the heart of our increasingly digitised world. Their products will be in high demand as cloud computing, artificial intelligence and automation become part of our everyday lives and the world moves to 5G networks and driverless cars.
The dividends paid by TSMC and ASML are relatively small compared to traditional UK FTSE 100 dividends, but they are based on thriving businesses that have a bright future. We are confident that they will continue to provide dividends and good capital growth.
We are also finding higher levels of income among well-established technology names. Broadcom is a US-based leader in designing and developing computer chips and software. After extensive analysis of Broadcom’s potential, we purchased Broadcom shares for the Diversified Monthly Income Fund in 2019 at a yield of 3.7%. Since then the company has issued a convertible preference share with a coupon of 8% per annum, and this is now our preferred exposure to Broadcom.
The technology sector is just one avenue that we are exploring to give investors in the Diversified Monthly Income Fund access to a wide range of income investments. The fund also invests in many other types of companies where we see good potential for income and capital growth, together with government and corporate bonds from around the world.
Importantly, the monthly payments made by the fund all come from income generated by the fund’s portfolio, so investors can be sure that monthly payments will not be eroding their capital.
The value of investments may fall as well as rise and investors may not get back the amount invested. Income from investments may fluctuate. Currency fluctuations may also affect performance.
The information contained in this document is provided for use by investment professionals and is not for onward distribution to, or to be relied upon by, retail investors. No guarantee, warranty or representation (express or implied) is given as to the document’s accuracy or completeness. The views expressed in this document are those of the fund manager at the time of publication and should not be taken as advice, a forecast or a recommendation to buy or sell securities. These views are subject to change at any time without notice. This document is issued for information only by Canada Life Asset Management. This document does not constitute a direct offer to anyone, or a solicitation by anyone, to subscribe for shares or buy units in fund(s).
Canada Life Asset Management is the brand for investment management activities undertaken by Canada Life Asset Management Limited, Canada Life Limited and Canada Life European Real Estate Limited. Canada Life Asset Management Limited (no. 03846821), Canada Life Limited (no.00973271) and Canada Life European Real Estate Limited (no. 03846823) are all registered in England and the registered office for all three entities is Canada Life Place, Potters Bar, Hertfordshire EN6 5BA. Canada Life Asset Management is authorised and regulated by the Financial Conduct Authority. Canada Life Limited is authorised by the Prudential Regulation Authority and regulated by the Financial Conduct Authority and the Prudential Regulation Authority.
The LF Canlife Diversified Monthly Income Fund may invest in property funds that may be illiquid and subject to wide price spreads, both of which can impact the value of the fund. The value of the property is based on the opinion of a valuer and is therefore subjective. This document is issued for information only by Canada Life Investments. This document [is intended to be used as a sales aid and] does not constitute a direct offer to anyone, or a solicitation by anyone, to subscribe for shares or buy units in fund(s). Subscription for shares and buying units in the fund(s) must only be made on the basis of the latest Prospectus and the Key Investor Information Document (KIID) available at www.canadalifeassetmanagement.co.uk.
 Source: AJ Bell Dividend Dashboard Q2 2020
Expiry date: 06/08/2021
Job number: CLI01692