What is an Income Investment Company
Breaking Down Income Investment Company
An income investment company builds a portfolio with income-generating securities, such as bonds, preferred shares, dividend-yielding shares and fixed-rate capital securities. The goal is to generate a steady flow of income for investors rather than to maximize gains to the portfolio’s value. Stocks with a history of steadily increasing dividend ratios are particularly attractive to income investment companies.
Income from securities inherently lowers the risk for investors, as the income mitigates losses to the value of the holdings. Further, companies that pay dividends tend to be stable, having weathered down markets. These companies have less room for growth, but are less likely to suffer extreme losses.
Though it’s counterintuitive, the investment company may reinvest dividends and bond coupons rather than distribute them among fund investors.
How Income Investment Companies Choose Securities
Investors interested in pursuing income investing should familiarize themselves with the metrics investment companies look at when evaluating income-generating stock. The most obvious way to measure dividend payments, in actual dollars, is not the best way to judge the value of the stock to an income portfolio. A better metric is dividend yield, the expected yearly dividend per share divided by current price per share. Higher yields are theoretically better investments, but within limits. Inordinately high dividend yields may speak to a high level of risk.
Another good measure is to compare the growth of dividend per share with the growth of earnings per share. A stock may be showing increases in dividend per share year after year, but if earnings per share doesn’t grow at or near the same rate, it will ultimately be impossible for the dividend payments to continue growing apace.
Even assuming these measures look promising, income investment companies may choose stocks that pay less in dividends if the companies issuing them are fundamentally more stable. That is, dividends are not necessarily the most important factor in choosing a stock, even for an income portfolio.
Income Investing and Taxes
In most areas on the planet, dividend income is taxed at income-tax rates rather than at lower capital-gains rates. That means that income investors are not only losing out on the potential gains to be had from dividend reinvestment, but also paying more in taxes for the privilege of receiving a steady stream of income from their investments. That trade off may be worth it, depending on the investor’s particular financial needs.