InvestmentsMar 26 2012

Exploring new paths to growth

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The hunt for income has never been so challenging. Yields on traditional core bonds are at record lows, and leaving money in the bank is a losing proposition in the long run because of virtually zero returns on cash investments. Add inflation into the mix and real returns are negative on many investments.

In the current environment, an increasing number of investors have been turning to alternative sources of income. These sources can not only diversify investors’ portfolios better and lower their overall risk, but offer very low and even negative correlations to traditional asset classes.

These include non-traditional asset classes such as master limited partnerships (MLPs), preferred stock, real estate investment trusts (Reits) and emerging market debt, which seek to generate attractive levels of yield compared with low interest rates in many developed markets.

However, Michael Fredericks, head of US retail asset allocation for the BlackRock Multi-Asset Client Solutions (BMACS) Group, stresses that these asset classes require specific knowledge.

Patrick Connolly, head of media relations at AWD Chase de Vere, agrees. “As a starting point you need to understand exactly what you are trying to achieve, over how long and the risk you are willing to take. This will dictate how you structure your savings and investments,” he says.

Real estate investment trusts (Reits)

A Reit is a security that sells like a stock on the major exchanges and invests in property directly. After paying a fee to convert to Reit status, however, a Reit escapes corporation tax. It must also pay out 90 per cent of its property income to shareholders. Individuals can invest in Reits either by purchasing their shares directly on an open exchange or by investing in a mutual fund that specialises in listed real estate. Reits have an average yield of 3.24 per cent, according to Morningstar.

Mr Connolly says: “With little if any economic growth likely, property investments face challenging times ahead where any capital gains are likely to be muted, rental yields could fall and there is the risk of increases in vacancy rates.

“We expect the returns of 2011 to be repeated, with ‘bricks and mortar’ property funds producing small positive returns in the coming years. This is likely to come from rental income rather than capital gains,” he adds

Bank loans

Bank loans, which are typically high yield credit, have increased in popularity, as they can offer investors yields of approximately 5-6 per cent per year. The risks include absence of a broadly accessible active market, making loans difficult to dispose of.

However, Joe Lynch, portfolio manager on the Global Floating Rate Income fund at Neuberger Berman, claims that loans offer protection against potential losses.