Ring the changes: the start jpmam logoof a new tax year is a fitting time to review how you intend to invest your money over the coming months.

 

Investing in ISAs (up to £20,000 for tax year 2020/2021) could be worth a thought.

An investor at the crossroads: cash or stocks and shares?

 

Investments can provide a reasonable income, and potentially protect or even increase capital value.

Cash ISA investments used to do this in the days when the Bank of England (BoE) took a more hawkish stance – experienced investors will remember that the BoE base rate held at 4% or higher from February 2004 to October 2008.

But in the current environment of very low interest rates, returns on cash ISAs are unattractive.

But what of stocks and shares ISAs, which offer the potential for higher yields, but with greater risk?

Shares can provide dividend income, but when company profits fall, dividends may be at risk. And many companies choose to reinvest profits for future growth and share price gains, rather than pay high dividends.

Companies with a track record of paying high dividends are not necessarily those with the best potential for income growth in the future. So for investors looking for regular income, there are drawbacks to putting their money in shares.

 

Enhanced dividends: more than ‘paper profits’

 

Some years ago, investment trust companies were not allowed to pay dividends to their shareholders out of the capital gains from increases in the market value of the investments they held. This restriction was removed from 2012.

Provided that they have changed their articles of association to allow the change, investment trusts are now able to pay dividends out of the capital gains on their investments, as well as from the dividends or interest that the investments earn.

Dividends payable from a combination of profits and capital gains on investment are known as enhanced dividends. If company profits and stock markets are buoyant, enhanced dividends can provide a relatively high income each year.

‘The potential benefits of investing (through ISAs) in shares of investment trust companies in order to receive enhanced dividends offer clear advantages to income investors’

Enhanced dividends can be particularly attractive to certain types of investors who want to receive a regular annual income but at the same time maintain (or even increase) the capital value of their investments.

Other investors also look to invest in shares that pay high dividends, because dividends payments are tangible investment return, whereas longer-term capital gains are more uncertain and may turn out to be illusory if unrealised gains (or ‘paper profits’) recede before being taken.

The potential benefits of investing (through ISAs) in shares of investment trust companies in order to receive enhanced dividends offer clear advantages to income investors. The actual amount of dividend payments will depend on the performance of the shares that the investment trust holds, therefore, compared to cash ISAs, the return each year may not be fixed or predictable. But the returns can be much higher.

 

The need for caution

 

There is no free lunch in investing and what is good for income investors is unlikely to be as good for long-term investors. Long-term investors want a healthy return from capital gains rather than big dividends on their investments, because if an investment trust pays enhanced dividends out of capital reserves, this reduces the potential for longer-term capital appreciation.

Investment trusts therefore need to balance the shorter-term objective of adopting an enhanced dividend policy to pay higher dividends with the need to protect shareholder interests and capital value over the longer term.

It is always important to remember that the market value of investments can go down as well as up, and investing to obtain enhanced dividends is not risk-free.

 

Income today and growth tomorrow

 

Even so, a policy of paying enhanced dividends can make it possible for investment trust companies to satisfy investors’ needs for dividend income today and also some capital gain tomorrow.

They can invest in the shares of companies with strong prospects for growth and capital gain, without having to ‘chase yield’ and invest in high-dividend companies, because they can pay dividends out of the capital gains that their investments enjoy.

There is a risk that investment trusts might pay out too much in dividends and so reduce their capital reserves to a point where future prospects are damaged. This is why the boards of investment trust companies regularly review their enhanced dividend policy, and the size of their dividend pay-outs, to ensure that they remain prudent and affordable.

 

Which investment trusts have an enhanced dividend policy?

 

The devil is in the detail: while the rules permitting enhanced dividends have been in place since 2012, not all investment trust companies have changed their articles of association (for which shareholder approval is required) to permit enhanced dividend payments. Some may have changed their articles, without yet adopting an enhanced dividend policy.

Investment trusts that have an enhanced dividend policy including JPMorgan Asian Investment Trust plc, which invests in equities around the region (excluding Japan) and JPMorgan Global Growth and Income plc, a dual-strategy trust that does just what it says.

For income-seeking investors, this innovation in the trust space is timely – investing in cash, or directly in dividend paying shares, is not without drawbacks. Investing to obtain enhanced dividends might well be an attractive alternative for the new tax year.

 

Related products:

JPMorgan Global Growth & Income   
JPMorgan Asian  
JPMorgan European Income  
JPMorgan Emerging Markets  

 

 


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This is a promotional document and as such the views contained herein are not to be taken as an advice or recommendation to buy or sell any investment or interest thereto. Reliance upon information in this material is at the sole discretion of the reader. Any research in this document has been obtained and may have been acted upon by J.P. Morgan Asset Management for its own purpose. The results of such research are being made available as additional information and do not necessarily reflect the views of J.P. Morgan Asset Management. Any forecasts, figures, opinions, statements of financial market trends or investment techniques and strategies expressed are unless otherwise stated, J.P. Morgan Asset Management’s own at the date of this document. They are considered to be reliable at the time of writing, may not necessarily be all-inclusive and are not guaranteed as to accuracy. They may be subject to change without reference or notification to you.

This is a promotional document and as such the views contained herein are not to be taken as an advice or recommendation to buy or sell any investment or interest thereto. Reliance upon information in this material is at the sole discretion of the reader. Any research in this document has been obtained and may have been acted upon by J.P. Morgan Asset Management for its own purpose. The results of such research are being made available as additional information and do not necessarily reflect the views of J.P. Morgan Asset Management. Any forecasts, figures, opinions, statements of financial market trends or investment techniques and strategies expressed are unless otherwise stated, J.P. Morgan Asset Management’s own at the date of this document. They are considered to be reliable at the time of writing, may not necessarily be all-inclusive and are not guaranteed as to accuracy. They may be subject to change without reference or notification to you.

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