The power of
At a time when base rates are stuck resolutely at 0.5% and the rates offered by high
street banks can be as little as 0.1%, the yield on the AIC Global Growth Sector of 2%*
looks appealing, not to mention the yield on the AIC Global Growth and Income sector
at 4.2%*. There are a number of reasons why making this kind of comparison between
yield and interest rates is not completely fair. Investors have to be aware that their
capital is at risk when investing in investment trusts, whereas it is largely protected
when deposited at the bank. They also need to bear in mind that inflation will reduce
the purchasing power of their income, while yields are calculated relative to a share
price which they might expect to rise over time. In addition, the ever-present risk that
the capital value might fall has been amply illustrated by the gyrations of the markets
this summer, which saw the FTSE 100 lose over 14% of its value.
In times such as these, the importance of
income only increases, whether it is to offset
the increase in the cost of living today, or
to enhance the capital value of a portfolio for
In terms of the cost of living, the Alliance
Trust‘s Economic Research Centre’s ongoing
study of Inflation and Age would suggest that
nobody suffers the rate of inflation reported
in the headline number and that it has often
been elderly households which have faced the
highest rate of inflation. Simply, this means that
elderly households have suffered a larger loss of
purchasing power than the average household.
Over the last nine years, a household headed
by someone aged 75 and over, has suffered
a 34% loss in its purchasing power, while
RPI would imply an average loss of 25%. For
example, in 2003, a 75 year old, with an annual
income of £20,000 which had tracked RPI over
the previous 9 years, could expect an income
of £25,000. However, their outgoings would
have risen to £26,800, or a shortfall of £1,800.
Although each age group suffers slightly different
levels of inflation, none appear to be able to
match the stated figure.
Enhancing the capital value of the portfolio
is a significant consideration for Alliance
Trust. When we buy shares, we look at the dividend policy of the companies in which we
invest, considering it a demonstration that the
management is committed to its shareholders.
To us, it is equivalent to the rent payable on
investors’ capital, and we apply that maxim in
our approach to the dividends we pay to our
own shareholders. Over the last 44 years, we are
proud to have increased the dividend we have
paid out in each and every year. Amongst our
peers, only City of London Investment Trust has a
longer unbroken record of dividend increases.
Investment trusts are ideally suited as vehicles
for long-term investors; the benefits of this
continuity can be seen in terms of both the
dividends paid and reinvestment of those
dividends in more shares in the trust. Over time,
the proportion of the total return derived from dividend reinvestment, will grow to prominence.
Despite the fact that the dividend yield on
Alliance Trust is around 2.6% (source FTSE), the
income component can become a major part
of the total return provided to shareholders.
As with any investment, those who opt to
reinvest their dividends in additional shares are
rewarded through the compounding effect of the
reinvestment providing them with a significant
uplift over the long term.
In the log chart above, the orange line represents
the increase in the value of £100 invested in
Alliance Trust in 1890. By January 2011, it would be worth over £87,000. Even allowing for the
impact of inflation (the green line) it’s a decent
return on the money invested. The blue line,
however, represents the value of that same
£100 if all dividends received were reinvested.
The £100 would now be worth over £13.2m,
representing an annualised return of over 10%,
compared to almost 6% for the increase in the
underlying share price. The size of the difference
may seem extraordinary, particularly as the
difference in the rate of growth is approximately
4.9%, but it’s the best proof of the advantages
of long-term investing.
While 120 years is longer than most peoples’
investment horizon, the figures over 40 years are
equally compelling – £100 invested in Alliance
Trust in 1969 would, at 31 July 2011, be worth
over £2,100. But, by reinvesting the dividend,
the holding would be worth almost £6,800. This
represents a compound return of 7.8% on the
capital and almost 11% when dividends have
been reinvested, and the gap can only widen.
The compound growth of inflation over the same
period is around 3%, although our research
would suggest that this probably understates the
* Source J.P. Morgan Cazenove 19 August 2011
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