Income-seekers should be wary of emerging markets
Investors looking for income should pause before they plunge their money into emerging market income funds in order to beat poor savings rates, experts warn.
But with interest rates at historic lows and inflation creeping up, the temptation to look for alternative sources of income is strong.
According to financial services provider Fair Investment, 69% of savers are prepared to invest in riskier assets such as emerging markets, in a bid to get better returns.
Tuning into this trend, JPMorgan Asset Management and Aberdeen Asset Management have both recently launched emerging markets investment trusts with an income remit. Unlike traditional income trusts, these don't have a UK bias.
Emily Whiting, emerging markets client portfolio manager at JPMorgan, says: "The drop in the FTSE 100 over the past couple of months and the result of the BP fiasco [the company has suspended dividends for the rest of the year] showed that investors should aim to diversify the income part of their portfolio.
"Only 10 companies account for almost 60% of FTSE 100 dividend income."
Both JPMorgan and Aberdeen – whose Latin American Income Trust aims for a 4.25% yield this year – say the dividend culture in emerging markets is improving as companies start to realise the benefit of rewarding shareholders and encouraging their loyalty.
However, Carl Melvin, managing director of Affluent Financial Planning, is not convinced by the proposition: "It strikes me as being inconsistent – you're trying to get income from what is traditionally a growth investment."
He recommends investors seek income from bond funds, fixed securities and UK income funds rather than high-risk emerging markets.
Andrew Merricks, head of investments at financial advisers Skerritt Consultants, disagrees: "UK dividends have been hit in the last few years, with the banks faring badly and BP doing away with its dividend."
He adds there could be better opportunities for income revenue in emerging markets and thinks the sector's risk profile is decreasing.
But Merricks does observe that the 4% yield from JPMorgan's fund is pretty low: "You could be getting 5% to 5.5% from a UK or global income fund, so its return is not life-changing."
The general term for the rate of income from an investment expressed as an annual percentage and based on its current market value. For example, if a corporate bond or gilt originally sold at £100 par value with a coupon of 10% is bought for £100 then the coupon and the yield are the same at 10%, or £10. But if an investor buys the bond for £125, its coupon is still 10% (or £10) and the investor receives £10 but as the investor bought the bond for £125 (not £100) the yield on the investment is 8%.
An increase in the general level of prices that persists over a period of time. The inflation rate is a measure of the average change over a period, usually 12 months. If inflation is up 4%, this means the price of products and services is 4% higher than a year earlier, requiring we spend and extra 4% to buy the same things we bought 12 months ago and that any savings and investments must generate 4% (after any taxes) to keep pace with inflation. Since 2003, the Bank of England has used the consumer prices index (CPI) as its official measure of inflation (see also retail prices index).
Generic, loosely-defined term for markets in a newly industrialised or Third World country that is in the process of moving from a closed economy to an open market economy while building accountability within the system. The World Bank recognises 28 countries as emerging markets, including Argentina, Brazil, China, Czech Republic, Egypt, India, Israel, Morocco, Russia and Venezuela. Because these countries carry additional political, economic and currency risks, investors in emerging markets should accept volatile returns. There is potential to make large profit at the risk of large losses.
If you own shares in a company, you’re entitled to a slice of the profits and these are paid as dividends on top of any capital growth in the shares’ value. The amount of the dividend is down to the board of directors (who can decide not to pay a dividend and reinvest any profits in the company) and they will be paid twice yearly (announced at the AGM and six months later as an interim). Dividends are always declared as a sum of money rather than a percentage of the share’s price. Although dividends automatically receive a 10% tax credit from HM Revenue & Customs (HMRC), which takes the company having already paid corporation tax on its profits into account. Dividends are classed as income and, as such, are liable for personal taxation and so shareholders have to declare them to HMRC.
A market-weighted index of the 100 biggest companies by market capitalisation listed on the London Stock Exchange. It is often referred to as “The Footsie”. The index began on 3 January 1984 with a base level of 1000; the highest value reached to date is 6950.6, on 30 December 1999. The index is “weighted” by how the movements of each of the 100 constituents affect the index, so larger companies make more of a difference to the index than smaller ones. To ensure it is a true and accurate representation of the most highly capitalised companies in the UK, just like football’s Premier League, every three months the FTSE 100 “relegates” the bottom three companies in the 100 whose market capitalisation has fallen and “promotes” to the index the three companies whose market capitalisation has grown sufficiently to warrant inclusion. Around 80% of the companies listed on the London Stock Exchange are included in the FTSE 100.