In praise of a consistent income
David Prosser explains the extraordinary capacity of investment trusts to maintain dividend growth.
Positive news in recent days from Scottish American Investment Company, which is increasing its total dividend for the year by 7% – well over twice the rate of inflation. It is the 52nd consecutive year the investment trust has been able to pay out a rising income to its shareholders.
Remarkably, however, its latest dividend increase puts it only joint ninth in the AIC’s list of dividend heroes – investment trusts that have raised their dividends in each and every year for at least the past 20 years.
The dividend heroes do get some praise periodically, but a rising income over many decades is a feature that bears repeating.
David Prosser
At the top of that list sit three trusts City of London, Bankers and Alliance Witan – that have a record of dividend increases going back 59 years.
It is too easy to overlook such track records, which are now so enduring that investors often take them for granted. But bear in mind that these decades of dividend hikes extend back through the oil crisis of the 1970s, the recessions of the 1980s and 1990s, the dotcom collapse, global financial crisis and Covid pandemic. Amid all that turmoil, these funds managed to keep paying out more each year.
There is, of course, a secret to this success. Investment trusts, unlike any other type of collective investment vehicle, are allowed to build up dividend reserves. In good years, they set aside some of the income earned from their portfolio holdings – up to 15% – rather than paying it out in full as other types of fund must do. This cash can then be used to subsidise dividends – and potentially dividend increases – in leaner times.
The effect is to smooth out income distributions. Investors in these funds won’t always benefit from market-beating yields, but they can have great confidence that the income is going to keep flowing. Indeed, with any investment trust, you can check out its dividend cover and reserve funding on the AIC website, which tells you how well supported is its ability to continue making distributions.
For many people, that consistency is hugely important. If you’re investing with the specific goal of generating income – perhaps in your retirement years – you need access to assets that will deliver a predictable stream of payments. For many, it’s not the amount of income that matters so much, but the reliability of its arrival; even better if that income stream also provides some protection from inflation.
Bear in mind too that investment trusts are also allowed, subject to shareholder approval, to make dividend payments out of their capital returns. In other words, when they make a profit on an investment, they can use some of that money to subsidise income distributions.
Again, this feature is unique to the investment trust sector. It comes with a cost, since capital paid out is capital not available to investors in the future, but it gives funds an additional weapon with which to bolster dividend consistency.
All of which is to say that Scottish American’s announcement of its latest dividend hike is more significant than it might first appear – it’s yet more evidence of the resilience of the broader investment trust sector in terms of income. And at a time when speculation is once again mounting that the Bank of England’s Monetary Policy Committee is set to cut interest rates once more, that feels even more important.
At the very least, don’t take this feature of investment trusts for granted. The dividend heroes do get some praise periodically, but a rising income over many decades is a feature that bears repeating, particularly as the UK’s income seekers are once again forced to look beyond cash savings accounts from banks and building societies.
