Three tips for investors looking for income

Adrian Lowcock | 16 May 2013
Article from http://www.hl.co.uk/news/articles/

Dividends paid by UK companies grew a healthy 6.1% in the first three months of the year, excluding special dividends, according to Capita Registrars' Dividend Monitor report.

In recent years investors have benefited from strong growth in UK dividends despite the weak economic climate. In 2012 UK companies paid out a record £80.4 billion in dividends with a number of one-off special dividends boosting the total. This year fewer special dividends are expected, but with these excluded, underlying dividends are forecast to grow 8.6% – an indication that many UK companies are in excellent financial shape.

The concept of equity income investing is simple - invest in the shares of well-managed companies whose dividends have the potential to grow over time. This provides a rising income, which if reinvested can create a snowball effect of compound growth. Furthermore, the shares of such companies often find favour with investors, meaning their prices rise. In our view equity income should form the core for most investors' portfolios, whether they are looking for income or growth.

Constructing a portfolio to generate an income can be relatively straightforward as long as you follow some simple rules:

Identify how much income you need. If your income requirements are too high then you might end up with a portfolio which pays a high income, but at the expense of capital growth. An income in excess of 5% is probably unsustainable in the long run.
Look after your capital. Many income-seeking investors look to maximise income without protecting their capital. A high yield can be a result of recent falls in the share price. This can signal there is something wrong with the business and the dividend might be cut in future. Good equity income investors look for companies that can pay a sustainable and growing dividend. This approach is likely to be supportive of the share price.
Diversify your income stream. If you are dependent on income from your investments, it is essential to have a mixture of investments from which the income is derived. Diversification will minimise the impact of events affecting individual companies. Investing in a number of asset classes can help to provide a more stable income - income generated from corporate bonds is generally less volatile than that from equities. Likewise investing overseas provides a further opportunity for diversification.