Pensions: How investment trusts can boost your retirement savings

 

With the government and many companies pulling back from generous pension plans, the onus for retirement security is being placed on the individual. But to build a good pot, retirement savers need the right kind of investments in the first place. 

 

“Pensions have gone from boring obscurity to the sexiest investment a person can make,” says Simon Cordery from F&C Asset Management. “You need to ask yourself, ‘how much income do I need and how big a savings pot do I need to generate that?’”

 

One area which is often overlooked but could make a positive difference to the size of your pension pot is the investment trust. One of the oldest types of investment fund around, trusts issue a set number of shares which trade on the stock market. The trust itself then uses money from selling shares to invest in other assets – infrastructure or property, for example. 

 

The chief reason trusts can be good for pensions is because they pay out regular dividends ­– so much so that they are considered “dividend heroes” in the investment world. Regular dividends are crucial for topping up the size of your pension pot.

 

“They are able to squirrel away some of the income they make each year into their revenue reserves to help boost dividends in more difficult years. This is known as ‘dividend smoothing’,” says Annabel Brodie-Smith of the Association of Investment Companies.

 

This means trusts tend to pay out dividends through the good times and bad, unlike dividends from shares in blue chip companies which are cut or suspended when times get tough. Some of the best trusts have increased their dividend payment for 40 or more consecutive years (see chart).

 

“Dividend smoothing is very important for a Sipp,” Cordery says. “Two-thirds of our investors always re-invest their dividend income until they actually need it… that’s a powerful compounder.”

Investment trusts have become known as the best way to access more unusual and less liquid investments. They can also be cheaper than regular open ended investment company funds too. “Charges eat into your pension over time. Cheaper passive products can be good for your pension but only in mainstream areas. Investment trusts tend to be quite good value,” says Caroline Shaw of Courtiers Investment Management. 

 

“I like to take exposure to sectors in the cheapest way, so in the major markets such as UK or European equities which are very liquid I would tend to use passive products such as ETFs or tracker funds. Outside of that investment trusts come into their own.”

It can be difficult to find reasonably priced passive products for less popular areas such as UK smaller companies, Asian equities or infrastructure, Shaw says, so trusts can be a better option. 

 

She highlights the Aberforth Smaller Companies trust as a case in point, as she has held it since 2008 and says its performance is “superb”.

 

Aside from price, trusts tend to be good for investing in areas where people need to think more long term to make money. Property is one example, as it takes a long time for investment managers to buy and sell, and its price rises gradually over years. Darius McDermott from FundCalibre highlights the TR Property trust as a good choice. It has been around for 100 years, invests across the UK and Europe and has been a consistent, solid performer, he says. 

A unique feature of investment trusts is that the price of their shares is often shown next to the value of the investments in the trust. 

 

If a trust is doing well, its shares will likely be priced highly compared to its underlying investments – known as “trading at a premium”. 

 

If the trust has become unpopular, its shares will be cheap in comparison to the value of the investments, which is “trading at a discount”. At the moment infrastructure trusts are popular and their shares are mostly at premiums. 

 

It can be fun – and profitable – to buy and sell trusts as their price fluctuates, but for people holding trusts in a pension over decades, these price movements don’t matter as much as investment performance. 

 

“We look at the discount and premium when trading, so if they are below price we may think of buying more. But I think if you are a long-term holder you shouldn’t worry. It’s just the way that trust prices move around,” Shaw explains.