Morgan Grenfell Asset Management is reducing the income yield on its High Income fund from 10% to 7....
Morgan Grenfell Asset Management is reducing the income yield on its High Income fund from 10% to 7.25% from 1 October. On the same day, the annual management fee will be reduced from 1.5% to 1.25%. Charges will continue to be deducted from income
Trail commission for IFAs remains the same at 0.5% for Pep and Isa sales
Jonathan Cook, managing director of Morgan Grenfell Investment Funds, said: "Government bond yields have fallen from 8.6% to about 5% over the past five years, and it is now clear that we are entering a period of low inflation with a relatively benign economic background. Interest rates will therefore remain level. It is very much a different world today than it was when we launched the fund, and a 10% income is unsustainable
"We carried out some extensive portfolio modelling and found that the nearest expected return we could achieve from this kind of portfolio was 8.5%. As we deduct charges from income, we decided to reduce the annual charge to 1.25%, leaving a yield for investors of 7.25
The current asset allocation of the fund is 65% in equity-linked bonds, 30% in equities and 5% in cash. This remains the same but the fund's derivative structure changes slightly
Gains on the fund are created both from its investments in traditional securities, where income has also fallen in line with gilts, and by writing options on single stocks, for which it receives a premium. These options are then embedded within a bond, called an equity-linked bond
Now that the yield target on the fund has been reduced, the portfolio does not need to take as much risk as it did in underwriting the options to gain the higher yield
For example, a company could have been trading at 100 pence. Previously, the fund would have written a put option with a strike price of 98p, for which it received a premium. So if the share price fell below 98p, the option holder had the right to sell shares to the fund at 98p pence, and the fund therefore lost money
Now, however, the fund can write a put option with a strike price of 90p. This option would yield less premium, because the share price is less likely to fall that far and therefore there is less risk. This kind of risk is achievable now that the target yield of the fund has been lowered
Investors will receive one further distribution at the existing 10% income level for the current distribution period. This will be paid on 30 November. The reduced yield and lower annual management fee will start to apply in the following distribution period, for which investors will receive payment at the end of February 2000
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