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They soared in the bear market that began this decade, they roared in the bull market that followed and they could also be your best bet for a stock market meandering sideways.
Don't get the wrong idea about income trusts — they've actually cooled off in 2006 after their stellar performances in the first half of this decade. But the quieter, calmer trust market could be just the place to park some money if the stock market were to get stuck in neutral. The reason is the cash payouts that trusts make to their unitholders each month or quarter. A trust with a unit price that goes nowhere over a year can still return 5 to 15 per cent through those distributions.
Trusts are stocks that are built on companies in businesses ranging from oil and gas production to the generation of electrical power, fast-food restaurants, financial services, trucking and telecommunications. The common element is the distribution, which for investors means that they're getting paid month by month and thus not dependent on a rising share price to generate returns.
Thanks to their heroics in past years, trusts have a street rep as a formidable investment that can deliver not only the yield on its distributions, but also regular unit price gains as well. Total returns — distributions plus unit-price appreciation — have averaged around 20 per cent over the past five years. Returns like that don't last forever, so don't be surprised if trusts come to be known as more of a yield-based investment than a hot spot for people seeking big gains.
A great thing about trusts is that you can pretty much target the percentage return you'd like and then go out and buy individual trusts that deliver it. Lower-risk trusts will get you a yield in the mid single digit range, while riskier trusts can get you returns in excess of 10 per cent. An alternative is to buy mutual funds or closed-end funds that hold trusts — they offer the benefit of diversification, but expect to sacrifice some of your yield to cover management expenses.
The most important thing to remember when picking trusts is that distributions are in no way guaranteed. So if you're looking for a trust that will reliably pay you in a sideways market, you'll want one that is, first, based on a very solid underlying business and, second, that isn't paying out all of its operating cash to unitholders. This so-called payout ratio is important because it gives you an indication of whether a trust would be able to weather a business downturn without cutting its cash payouts.
Some of the most stable kinds of trusts include real estate investment trusts, or REITs, and power-generating trusts, which operate hydro plants serving customers who are generally on fixed-price contracts. Growth in the unit price of trusts like these is slow and steady over the long term, but the distributions are usually reliable. If you want help in choosing reliable trusts for a sideways market, consult the stability ratings produced by Standard & Poor's and Dominion Bond Rating Service (you can access them at no cost through the Trust Centre on GlobeinvestorGold). Trusts with excellent stability ratings can still surprise you with a distribution cut, as unitholders of Gaz Metro LP found out earlier this year. But a high stability rating is still worth paying attention to.
If you're at all concerned about picking your own trusts, think seriously about a mutual or closed-end fund that holds dozens of trusts and thereby limits the pain of choosing a dud. You may only get a yield of 5 per cent from a fund holding trusts, but that may not seem too bad if the overall stock market is as flat as a plate of warm beer.
Rob Carrick has been writing about personal finance, business and economics for more than 12 years.