Trust in PEPs for high returns

INVESTORS wanting income should look at investment trust shares, say analysts. The launch of a number of new investment trust funds has helped depress the prices of existing trusts, giving the prospect of good returns at lower-than-average risk.

Many of these are complicated and unusual investments - high-dividend shares that offer limited capital returns or that, in some cases, will be worth next to nothing after a few years, so it is essential to take advice. However, as the end-of-tax-year PEP deadline looms this week, some stockbrokers say these shares could make suitable investments for PEPs that let you choose what to tuck away. This is because these shares pay high incomes that, via a PEP, will be tax-free.

The catch in these split capital investments is the inbuilt capital losses or limitations, which mean that, in effect, part of the high income comprises the return of some of your original investment. But even after this, a typical example of these shares might give a holder total investment returns averaging at least 10 per cent a year.

"We are very bullish," says John Szymanowski, investment trust analyst at SBC Warburg. "Dividends are rising and income is going up. The returns look really good, even on a no-dividend growth assumption. Some shares are very, very cheap."

Bill Fowler, of Gerard Vivian Gray Asset Management, a company that specialises in managing investment trust portfolios, adds: "The overall return that some shares offer is incredibly good. For example, gilts [government stock] currently offer 6 to 8 per cent. A typical income share on very modest assumptions about dividend growth will give gross redemption yields [annual total payback to maturity] of 12 or 15 per cent."

SBC Warburg now has a long list of "buy" recommendations, which is available through many independent financial advisers. For example, River & Mercantile income shares currently offer investors an 11.1 per cent average gross return for the next four years or so to the wind-up date - even if there is no further income or capital growth in the trust's underlying assets. And the income shares of Fulcrum and Throgmorton Dual trusts are described as "ridiculously cheap".

Two important tips are to look to hold shares you buy to maturity, otherwise you may lose out because of price changes in the interim. And unless you need the income paid out, keep it in your PEP and recycle it into a different investment. Again, you should take advice on this.