Sources of Income for Funds

Income funds focus more on providing investors with strong levels of income rather than capital growth. The main source of income for income funds are interest and dividends. Interest income is usually received in the form of coupon payments received from bonds, debentures, notes, preference shares and money market instruments in the fund. The fund reinvests this income and then periodically distributes it to investors on pre-determined distribution dates that could be monthly, quarterly or semi-annually. These dates are available on the fund fact sheet (minimum disclosure document).

Income funds can also invest in property. Individuals often buy property as a source of income. The property is bought and then put up for rent to receive the monthly rental income. Income funds are no different and invest in property companies listed on the Johannesburg Stock Exchange. These listed property companies receive rental income from their property portfolios and also make profits from selling property. This income and profits are then paid out as dividends. Another group of property companies known as Real Estate Investment Trusts (REITs) have to pay out at least 75% of its income to shareholders. It’s important to note that the payments from REITs are taxed as income while dividends from listed property- and equity companies are subject to dividend withholding tax. Unit trusts will indicate how the income is split between interest and dividends.

Why Yield is Important

The yield of an investment is the rate at which you earn income on your investment. If you invested R10 000 in a fund and over one year the fund pays out a total of R1 000, then the yield of the fund is 10% (1 000 ÷ 10 000). Now why is it so important to know what your yield is on an investment?

The main objective of investments is to create wealth or at least to preserve it. The value of R100 today is certainly worth more than the value of R100 you will receive five years from now. That’s because money loses value or purchasing power over time due to inflation. A smart investor knows that to create wealth, you first need to beat inflation. The return on income funds is predominantly measured by its yield and this usually is an indicator of the income you can expect to receive from the fund over the next year. The yield of your investment should therefore be higher than inflation and this difference is known as the real return (or spread above inflation).

Investor Profile

Income funds are mostly used as the low-risk portion of a portfolio aimed at generating cash flow for the investor. Someone looking to cover day to day expenses with their investment should consider an income fund, as these funds generally pay out income monthly or quarterly.

Income funds offer investors a return that beats inflation (currently about 5.5%) with little variability in the return. Your money is also readily accessible and funds can be withdrawn within a couple of days, giving the investor liquidity in case of an emergency. This makes income funds an attractive alternative to bank savings accounts that normally offers lower returns, and fixed deposits that lock you in for a set term and offers lower returns. The time horizon for income funds is generally short term (shorter than three years) and longer term investors should consider adding growth assets to their portfolio to maximise return. If you are looking to save for a down payment on a house or that overseas holiday you have been promising yourself, then an income fund is a great option to consider.

The Sharenet Income Plus Fund offers investors the opportunity to invest in an income fund that has returned more than 9.40% over the past year to supplement your income or to help to make your dreams come true.