Building Life Plans, One Client at a Time

Are Stocks the New Bonds?

Some of our clients and friends have asked us what strategy they could use in this market to generate income from their investment portfolios. Bond yields are low, and bond risk is rising as issuers take advantage of today’s low rates to extend duration. Fixed-income securities as a source of income don’t look very compelling. What’s an investor to do?

Luckily, there is an option that many investors find attractive: portfolios that focus on growth and income through high dividend yield (HDY). A manager selects the stocks in these portfolios by identifying high-quality companies that offer a higher-than-average dividend yield. An HDY portfolio is characterized by:

1)    Quality—the strength of the company, looking at past and present performance and future forecasts. Does the company have a strong balance sheet, good cash flow, and a low debt-to-equity ratio?

2)    Dividend payout—the company’s history of paying dividends and the likelihood that it will pay dividends in the future. Does the company have the ability to grow dividends?

A high-dividend-yield portfolio is benchmarked to an index—often the S&P 500, which includes 500 large-cap companies that account for about 80% of US market capitalization. Out of those 500 stocks, the manager selects a diversified group of high-quality companies that pay high dividends. Some managers track the index very closely, meaning that the stocks they select will represent industries in roughly the same proportions as the index. Other managers don’t mirror the S&P as closely, meaning that their analysis will lead them to overweight or underweight particular sectors.

The goal of an HDY portfolio is to perform as well as, or better than, the benchmark over a full market cycle with a dividend yield that is greater than that of the benchmark’s. Kris McCabe, national director for Advisor Partners, explains: “Our high-quality dividend yield portfolios are actively managed for capital appreciation and income generation with controlled risk.”

Managers of these portfolios conduct ongoing risk analysis of the selected securities to make sure that the companies continue to meet the goals established for them. When securities in the pool need to be replaced, a good manager will do so in a tax-aware manner, being mindful of how tax consequences can erode an investor’s gains.

Who are good candidates for HDY portfolios?

  • Investors seeking income: HDY portfolios can be a good choice for those who want to boost their income while continuing to grow their assets. The income generated by the portfolio can be distributed on a regular basis.
  • Investors seeking growth: HDY portfolios can also work for investors who are seeking capital appreciation but who don’t need current income. Instead of taking distributions, these investors can let the dividend income compound the yield by reinvesting the dividends or letting the cash accumulate and purchasing other securities with it.

If would like more information or have any questions, please feel free to call Faraz at (925) 365-1533 or send an e-mail to lifeplan@accretivewealth.com.

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