Five alternative income investment options

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Five alternative income investment options

It’s an issue that has been intensifying since record low interest rates were first inflicted on savers in 2009. 

As inflation-beating savings accounts on the high street quickly evaporated, thousands of people were forced to start thinking more seriously about investing – and so were financial advisers.

Their first port of call was the traditional safe havens: reliable government gilts and the corporate bonds of the most creditworthy companies.

However, as a glut of money glugged into these assets, yields were pulled lower and lower – 10-year gilt yields have fallen from 4.9 per cent to just 1.2 per cent over the past decade. Investors were forced further up the risk curve just to try and keep the value of their savings from being eroded away. 

Tom Becket, chief investment officer at Psigma Investment Management, says: “Income is a pre-eminent concern for investors at the moment. Income from high-quality assets is all but extinct, and that has been to the benefit of some weird and wonderful things.

‘While some of these investments are interesting and attractive, many can be risky or illiquid and getting timely information can be difficult.’

As a result, there has been an explosion of interest in alternative income-producing assets – areas that intermediaries may never previously have considered have quickly grown in popularity as the hunt for yield becomes harder.

While the options get ever more esoteric, there is still yield to be found. The illiquid nature of these asset classes means they are typically only available in investment trust structures The trusts have witnessed a boom in interest, as Chart 1 and Chart 2 show. But these offerings require investors to tread carefully before taking the plunge.

Infrastructure 

Infrastructure – one of the more conventional alternative asset classes – has become a topic of particular interest over the past year as investors mull the possibility of expanded government spending in countries such as the US. It offers reliable yields over long periods, backed by the relative security of government contracts. 

Infrastructure refers to everything from schools, hospitals and airports to roads and railways or even streetlights. 

Investment trusts own these assets, and are paid to maintain and operate them. In this regard, the sector is in keeping with property portfolios – a more familiar area for many advisers.

Nathan Sweeney, senior investment manager at Architas, says: “I see infrastructure as a watered-down version of property. But one of the crucial differences is that, where a property fund might find itself with an empty building if a restaurant or store decides to close, infrastructure assets are on very long-term leases – perhaps for 25 years or more.”

One example is Tritax Big Box, which owns industrial warehouses across the country. These buildings are used by retailers as distribution centres to satisfy the growing trend toward online shopping. With more than a quarter of UK consumer purchases already made over the internet, retailers need huge spaces to store their goods and from which to ship them. The investment trust currently yields around 4.4 per cent.

Another choice is the John Laing Infrastructure Fund, which yields just more than 5 per cent. The £1.3bn trust’s holdings include Barcelona Metro Stations, a Ministry of Defence building and a number of hospitals.

The main detractor from these investments is that rising inflation could eat into returns. Those long-term leases are often not inflation-linked, so today’s yields may not look so impressive if inflation claws its way back up beyond 2.5 per cent and sterling continues to fall.

Student accommodation

Another variation on the ability of property to provide a steady income is in the provision of accommodation for students. Mr Sweeney says that much of the demand is being driven by wealthy individuals from overseas who want a good education and decent housing to boot. 

Empiric Student Property, which yields 5.4 per cent, owns buildings across many of the most popular university towns, including Edinburgh, Durham and Cardiff. 

GCP Infrastructure is a more London-focused trust with studio rooms in fashionable spots such as Greenwich and Shoreditch. The trust, which yields 5.8 per cent, also owns 153 rooms in Bristol.

Aircraft leasing

The premise behind aircraft leasing companies is that an airline would rather lease 10 planes than buy just one. Commercially, having a larger fleet certainly appears to make more sense, and the airline gets to give the plane back after an agreed period, ensuring it can always have the latest model.

Trusts in this space raise money from investors and in bank loans to buy a plane, which they then lease to an airline, culminating in overall yields of 6 per cent or more.

The question for intermediaries is whether they understand these products well enough to back them. There are, at least, several investment vehicles to compare and contrast: names such as Amadeo Air Four Plus, DP Aircraft, and three versions of the Doric Nimrod Air offering.

Peer-to-peer investment trusts

Peer-to-peer (P2P) investing has captured the attention of retail investors over the past few years for its ability to pay higher rates of interest than high street savings accounts. Intermediaries have become more interested, too, but reasons to temper that enthusiasm have been emerging more recently.

P2P involves an individual lending money to a stranger who needs a loan via a middleman website – the saver gets a better rate of interest than they can get from their bank, and the borrower gets a loan at a lower cost, too. Savers’ money is often split across a number of different loans to spread the risk.

It is only natural that a number of investment trusts have sprung up doing the same thing, but on a grand scale. 

Mr Becket likes investment trust P2P Global Investments, which is trading at a hefty discount of around 20 per cent despite being backed by major investors such as Neil Woodford and Mark Barnett.

Mr Becket says: “What I like about peer-to-peer is that it can offer a diverse range of investments. This trust invests across the US, Europe and Australasia, it pays a good income and is not correlated to other assets.”

Part of the reason for the trust’s hefty discount is poor performance. P2P announced a review of its investment management arrangements in April, indicating that an upheaval may be on the cards. Meanwhile, in the US, a scandal at Lending Club, a high-profile operator in the space, shook P2P investors worldwide in 2016.

Catastrophe bonds

Just as households will buy insurance to cover themselves in the event of a burglary, flood or fire, so too do insurance companies to try to protect themselves.

Catastrophe bonds – also known as insurance-linked securities – are policies that insurers take out to protect their business in the event of a natural disaster on the scale of Hurricane Katrina or a major earthquake.

For an insurer to be able to claim on their policy, the disaster must be on a huge scale – perhaps more than £500m, which, in theory, lowers the risk. The investment is a type of bond and the return is based on whether a particular catastrophe occurs over a specified time period. 

If the disaster does occur the money raised is used to pay customer claims. Sweeney has invested in the CATCo Reinsurance Opportunities fund, which has produced an annualised return of 14 per cent over the past five years. 

Asset-backed securities 

The idea of asset-backed securities might raise the hackles of many investors. The name alone conjures images of the Big Short-style chaos that led to the financial crisis. 

Mr Becket says there are opportunities to be found though as long as due diligence practices are up to scratch. He likes the Twentyfour Income Fund, for example.

The fund invests in a basket of bonds made up of car loans and mortgages. A sell-off in these assets after the 2008 crisis, and to a lesser degree following the 2012 European debt crisis, means the investments still offer a 6 per cent yield. 

Rightly or wrongly, many people are very mistrusting of these assets. But Becket says credit quality has improved notably, and because the loans have floating rates of interest they provide protection against inflation.

None of these are options to pile an entire portfolio into, of course, and many clients might baulk at the idea of tying their hard-earned savings up in catastrophe insurance or asset-backed securities. 

Certainly, these investments should be viewed as complementary to corporate, high-yield and even emerging market bonds rather than as replacements.

Mr Sweeney concludes: “People absolutely need to understand the risk, but there are options to get income out there. We see the benefits of these assets, but you shouldn’t have exposure of more than 10 per cent, and you should also keep some of those lower-yielding government and corporate bonds as insurance for your portfolio. 

“There are lots of alternative income sources out there, but you have to make sure the yield they pay is worth the risk you are taking.”

Holly Black is a freelance journalist