Which investment trusts can survive the income drought?

For those relying on their income to live on, the situation looks fairly dire at the moment. Plunging stock markets, companies cutting dividends and rock-bottom interest rates all make for fairly depressing reading for investors. With companies having cut more than £4.8bn of dividends and counting, fund investors are undoubtedly going to see their income payouts reduced in the coming months.

Fund managers should have ensured a good spread between different dividend paying companies and that the portfolio is not overly reliant on individual company’s dividends, but fund rules state they have to pay out all of the income they receive each year and therefore investors should expect income to fall.

However, the structure of investment trusts means they are able to hold back income when the times are good and use it to bolster payouts when times are tougher, like now. Many income-focused trusts have built up reserves that they can dip into in the coming months and years, so they could maintain or even grow their dividend this year even if their underlying holdings make cuts.

Investors can look at the reserves each trust has, and determine which are best placed to go into a period of fallow income payments and still keep up their dividends. Clearly the trusts vary in size and in how much income they are currently paying out, so just looking at the revenue reserves doesn’t give the clearest picture. Instead, dividend cover looks at how many times the dividend can be paid from reserves alone – so assuming that no new income comes in. Clearly the higher the figure, the better able a trust is to deliver the same income as this year.

Seven trusts among the Dividend Hero investment trusts have built up enough reserves to cover their dividend for 1.5 years, while two (Alliance Trust and Scottish Investment Trust) have more than two years’ of dividend payments stored away. At the other end of the spectrum, five trusts have less than a year’s worth of dividends saved in their reserves, which might put them in the dangerzone of dividend cuts if they saw a dramatic fall in the income received from their investments.

Another test for investors is to see which funds have prioritised increasing their dividends above inflation over the past two decades – highlighting those that might be better prepared to weather the current markets. Just four investment trusts have managed to give investors an above-inflation increase in their dividend every year for the past 20 years: Caledonia, Bankers, JPMorgan Claverhouse and Perpetual Income and Growth. While there are no guarantees, the fact that these trusts have managed to continue this trend through the 08/09 market downturn and various market cycles may give some investors comfort.

Dividend cover at Dividend Hero investment trusts

Source: AIC/Morningstar. As at March 2020. Notes: N/A is where the trust doesn't report revenue reserves separately.

Dividend Hero investment trusts that delivered inflation-beating income payouts

Source: AJ Bell/AIC/Morningstar/FE.
*Full year dividend figures for 2019 not yet available.