Olivers Insights - Five great charts on investing for income (or cash flow)
Five great charts on investing for income (or cash flow)
Article by Shane Oliver, Head of Investment Strategy and Chief Economist at AMP Capital
The low interest rates of recent times along with periodic turmoil in investment markets has provided us with a reminder of the importance of the income (cash) flow or yield an investment provides. It’s particularly important for those relying on investment income to fund their living expenses. As with all investment topics, investing for income can seem complicated and daunting once you move beyond bank deposits but in fact it’s really quite simple. So this note looks at five charts I find useful in understanding investing for income or yield.
At its core, successful investing is simple, but we have a knack of making it look complex.
These five great charts help illuminate key aspects of investing for income (or cash flow): there are lots of alternatives to bank deposits for income; the gap between yields on different assets provides a guide to relative value; shares can provide stronger growth in income with less volatility than bank deposits; a high and sustainable income yield from an investment provides security during volatile times; and yield provides a guide to future returns.
Chart #1 There are lots of alternatives to bank deposits
The yield an investment provides is basically its annual cash flow divided by the value of the investment.
- For bank deposits, the yield is simply the interest rate, eg bank 1-year term deposit rates in Australia are about 2.25% and so this is the cash flow they will yield in the year ahead.
- For ten-year Australian Government bonds, annual cash payments on the bonds (coupons) relative to the current price of the bonds provides a yield of 2.8% right now.
- For corporate debt, it’s a margin above government bond yields and depends on the riskiness of the company but is currently averaging around 3.6% in Australia.
- For residential property, the yield is the annual value of rents as a percentage of the value of the property. On average in Australian capital cities it is about 3.9% for apartments and around 2.5% for houses. After allowing for costs, net rental yields are about 2 percentage points lower.
- For unlisted commercial property, yields are around 5.5%. For infrastructure investment it averages around 4.5%.
- For a basket of Australian shares represented by the ASX 200 index, annual dividend payments are running around 4.3% of the value of the shares. Once franking credits are allowed for, this pushes up to around 5.7%.
The next chart shows the yield available on a range of investments both now and in December 2009.
Source: Bloomberg, REIA, RBA, JLL, AMP Capital
Key messages: first, there are plenty of alternatives to cash when it comes to yield or income. Second, the yields on these investments will move over time and since the aftermath of the Global Financial Crisis (GFC) the trend has been down.
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