As the environment of low interest rates becomes more protracted, investors have been increasingly turning to the stock market in search of income.
This quest for yield is one factor that has helped to push stocks higher, with the Standard & Poor’s 500 index near all-time highs, even as returns on many bonds are paltry.
“With bond yields at all-time lows, investors looking for yield are turning to stocks,” says Matt Schreiber, president of WBI Investments.
While utilities, real estate investment trusts and master limited partnerships have traditionally been high-yield plays, there may be some surprising pockets where investors can earn higher-than-average returns.
[See: 7 Stocks to Buy for the Baby Boomer Retirement Wave.]
Preferred shares. With low interest rates continuing longer than expected, asset classes that trade as a spread above U.S. Treasury yields are returning very little, notes Jay Jacobs, director of research with Global X Management Co.
One response he sees is investment in preferred shares, which pay regular coupons like bonds but also trade on exchanges. They are higher on a company’s capital structure than equities but lower than bonds. That extra risk is one reason they yield more than bonds from the same company.
Global X runs the SuperIncome Preferred exchange-traded fund (ticker: SPFF), which invests in 50 of the highest yielding preferred stocks in North America.
Christian Magoon, CEO of Amplify Investments and founder of YieldShares, also sees preferred shares as a way to seek yield.
He recommends an exchange-traded fund that packages them alongside other higher yield investments including REITs, MLPs and U.S. dividend stocks. It’s the Guggenheim Multi-Asset Income ETF (CVY).
“You’re really getting a lot of diversification,” he says of this fund, which he helped create when he was at another firm that Guggenheim later bought.
Not only are each of the asset classes different in their business models, that internal diversification gives the fund a lower correlation to the general equity and bond markets, he says.
REITs and MLPs. Jacobs is also seeing money go into REITs and MLPs, which are both tax advantaged, allowing them to yield more. Global X offers the SuperDividend REIT ETF (SRET) and the MLP ETF (MLPA).
Because MLPs are generally energy related infrastructure companies, they have some commodities sensitivity, Magoon says. But many have longer term contracts, so they’re not as commodity price sensitive as they would first appear, he says.
And because REITs are tied to the real estate markets, they can keep pace with inflation, he says.
REITs and MLPs, as well as preferred shares, can experience price fluctuations, and they don’t guarantee returns like bonds, Jacobs notes. Holding all three of these asset classes offers diversification, he says.
Technology. For dividends, Magoon likes technology stocks, such as those held in the First Trust Nasdaq Technology Dividend Index Fund (TDIV).
[See: The 10 Best Small-Cap Value ETFs.]
These stocks offer the growth potential of technology, but as the tech sector has grown, companies are holding lots of cash and paying dividends, including the potential for windfall special dividends.
“It’s kind of the best of both worlds,” he says of the blend of growth and value.
While these companies may have higher share price volatility, they also have higher current income and capital appreciation potential, Magoon says.
Technology has “become the new essential, kind of the new utilities,” he says.
Banks. Meanwhile, Schreiber is finding yield in the financial sector — not the big banks, but smaller ones including Webster Financial Corp. (WBS), Bank of Hawaii Corp. (BOH), First Merchants Corp. (FRME) and Tomkins Financial Corp. (TMP).
These retail-focused banks have been more careful with how they deploy their resources than big banks more focused on Wall Street, he says. They are also not in as much debt, he says. And while the business lines that they have are diverse, they are not as broad-reaching as the big banks, he says.
Closed-end funds. Magoon also points to closed-end funds as vehicles for yield.
These actively managed funds raise capital just once with an initial public offering, have a fixed number of shares and can end up priced at a discount to their net asset value.
These funds can also take on debt, and this leverage combined with a net asset value discount can make for above-average yield, Magoon says.
In 2013, Magoon helped launch a portfolio of 30 debt and equity closed-end funds called the YieldShares High Income ETF (YYY). However, he cautions that closed-end funds can be more volatile because of their debt loads.
With the stock market near all-time highs, investors need to be careful in their search for yield, Schreiber says.
He says there have been signs of a disconnect between high stock prices and the actual health of companies.
[Read: Alibaba: Rising Star or Fragile as China?]
“Buyers should beware of a large decline,” he says, recommending to buy high quality dividend-paying stocks with positive trends in earnings and revenue that might do better in a correction.
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Where Investors Can Look for Yield originally appeared on usnews.com
