Currently, quite a few investment trusts yield over 5%. Here are five of them.

Income focus

Some explicitly focus on dividend income. That can be attractive as an investor, but one of the questions to answer is how the income is earned? Is it just paid from dividends the investment trust earns, or does it sometimes use spare cash and share sales to help fund the dividend?

Either approach can have pros and cons, but obviously the distributions a trust makes to its shareholders may limit its own long-term growth potential as it will then have less than it otherwise may have to invest.

Aberdeen Equity Income Trust yields 6.3%, Henderson High Income Trust 6% and Shires Income 5.5%. These yields all look attractive to me. What about the long-term share price growth picture?

Over the past five years, these trusts have moved up 40%, 33% and 28% respectively. Meanwhile, the share price growth in that period for Aberdeen Asian Income Fund is slightly below Shires’, at 27%. But it has a higher yield than all three of them, at 6.8%.                                                                                                          

I regard this as a very impressive performance – juggling high yields and share price growth at the same time is not always easy.

Of course, past performance is not necessarily a guide to what may happen in future. Those four investment trusts have all raised their dividends annually in recent years, but what happens to the economy over the long term will be important in determining whether they can keep doing so. Dividends are never guaranteed.

Income through growth

As an example of that, look at Montanaro UK Smaller Companies Investment Trust (LSE: MTU). Its current yield of 5.9% is certainly juicy. Plus, the shares sell at a discount of 11% to its net asset value.

However, while it has raised its dividend per share in each of the past couple of years, the 2023 payout was 30% below the 2022 one.

Not only that, but its share price has fallen 14% in the past five years. So while the yield is still attractive, the share price movement over the past five years has been far worse than for the trusts I mentioned above.

That partly reflects the trust’s focus on smaller British companies. Investing in small and growing companies can be lucrative and help fund juicy dividends – indeed, that is why I own shares in Gresham House Income & Growth Venture Capital Trust.

Risks, as well as possible rewards

But the strategy can carry risks as well, especially in a weak economy when small- and medium-sized companies may be less equipped than larger, longer-established businesses to weather the storm.

As the investment trust managers noted in their latest quarterly commentary, “small-cap valuations remain deeply discounted versus large cap and global peers”.

If that valuation gap closes, it could be good news for Montanaro UK Smaller Companies Investment Trust. For now though, I see no obvious catalyst for that and will not be investing.

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