Search for income pushes investors to cover new ground

But as the requirement for income grows, particularly income in retirement, those historically dependable sources are drying up.

Fixed income was once a reliable income-paying asset but, after a long bull market that pushed yields down to record lows, the environment is much trickier. The recent sell-off in the asset class illustrates the potential for capital loss, and yields are still at far from attractive levels.

David Riley, head of credit strategy at BlueBay Asset Management, says: “With anaemic economic growth and lacklustre corporate earnings, the search for yield will continue to dominate as core fixed income markets remain subdued. Fixed income investors are entering a new era of leaner times ahead and uncertainty as the world slowly normalises.”

He adds these investors may have to adopt a more diversified approach to enhance portfolio returns.

“Branching out to leveraged fixed income [which includes high-yield bonds and loans], and emerging market debt provides access to higher-yielding asset classes with the added benefit of a yield cushion, making them less sensitive to interest rate volatility.”

The US has been the engine of global dividends in the last two years, so the slowdown helps explain the loss of momentum in growth at the global levelAlex Crooke, Henderson Global Investors

Equity income is also facing headwinds, with dividend growth slowing in certain parts of the world. The latest Henderson Global Dividend Index for the third quarter of 2016 shows global dividends fell to $282bn (£227bn), down 4 per cent year on year and the weakest performance since the second quarter of 2015.

The main reason for this is slower dividend growth in the US, which accounts for two-fifths of global dividends. Payouts in the US declined 7 per cent in the third quarter to $100bn as large special dividends paid out a year earlier were not repeated. The index cites more subdued profit growth among US companies.

UK-based investors have benefited in 2016 as sterling weakness offsets this trend. But Alex Crooke, head of global equity income at Henderson Global Investors, observes: “Global dividend growth has been lacklustre this year. The most significant trend is the reduction in US dividend growth, now at its slowest since the index started in 2009. 

“However, we do not see this as a major cause for concern as US dividend growth had to return to a more sustainable rate after a couple of years of double-digit expansion. The US has been the engine of global dividends in the last two years, so the slowdown helps explain the loss of momentum in growth at the global level.”

He believes a strong performance in Europe, which saw dividends reach $19bn in the latest quarter – up 16 per cent year-on-year on a headline basis – means underlying growth there may now exceed that in North America this year.

Mr Crooke acknowledges this has not been enough to offset greater than expected weakness elsewhere, including China and the UK. Dividends in the UK fell 2.9 per cent in underlying terms in the third quarter.

Investors have also been avoiding the IA UK Equity Income sector lately, with net retail sales of just £17m in September, having clocked up net retail sales inflows of £342m as recently as April 2016.

Kames Capital’s senior equity investment specialist, Luc Simoncini, observes a number of major UK companies are cutting their dividends this year.

“The challenge for equity income investors is further compounded because around 20 companies account for 70 per cent of all dividends paid.”

Mr Crooke says: “Our research shows just how dependent investors in some parts of the world are on a narrow range of sectors, or a small group of big companies, for income. Moreover, exchange rate movements have been volatile lately. Taking a global approach to income reduces this risk and broadens opportunities.”

Ellie Duncan is deputy features editor at Investment Adviser