The Argonaut European enhanced income fund aims for a target yield of around 7 per cent in its first year, with yields for subsequent years varying between 5 and 9 per cent depending on market conditions. It will also hedge around 95 per cent of its returns back into sterling to reduce currency risk.
Around 4 per cent of the initial yield is expected to come from dividends in a portfolio of 30 to 55 big blue-chip European ex UK shares. Fund managers Oliver Russ and Barry Norris will manage this part of the portfolio in the same way as they run the existing Ignis Argonaut European income fund.
This involves applying a bottom-up stockpicking approach to European equities that pay high dividends, with a bias towards bigger companies. Stocks, which are classed as value, growth or special situations, are bought on a long-term view and will typically be held for three years.
The remaining 3 per cent of the initial yield will be generated from a covered call strategy, where fund managers sell call option on stocks they own.
A call option gives a buyer the right, but not the obligation, to buy stocks from the seller at an agreed price on a specified date. For this right, the buyer pays the seller a premium, which will boost income for the Ignis fund.
However, the seller gives up potential growth above the agreed price, because the buyer is likely to buy the shares, or accept a cash settlement, if the shares are trading above it. This means the Ignis Argonaut fund may underperform if markets rise quickly.
If the underlying share price does not move, or falls, the call option expires and the seller will have still made a profit through the premium.
Some investors may be looking to Europe instead of the UK for equity income because yields are higher and the covered call strategy could be useful. However, it is a complicated strategy and currency hedging can have a negative impact on returns when the hedged currency depreciates, as the fund cannot benefit from appreciation in other currencies.