A commonly relied upon concept for retired investors and the financially independent is the “4%” rule of thumb. Essentially, the rule suggests that investors should withdraw up to 4% of their total portfolio in the first year, and then adjust upward for inflation every year thereafter.
By following the 4% rule, investors can ensure steady, adequate income without prematurely depleting their portfolio. The withdrawals are usually funded by a combination of dividend and interest income from stocks and bonds, in addition to capital gains from periodic share sales.
However, it’s important to remember that the 4% rule is not actually a rigid plan investors need to follow. Planning for retirement income should be based around a variety of circumstances, including portfolio size, risk tolerance, expected lifespan and tax efficiency.
Moreover, some investors may be averse to selling shares to fund income needs, especially at a loss during market downturns. To avoid this, investors can seek reliable assets that produce annual yields above and beyond what’s required by the 4% rule of thumb.
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Assets like corporate bonds, covered call options, preferred shares, dividend stocks, real estate investment trusts, or REITs, and high-yield “junk” bonds can all provide higher-than-average levels of income. However, accessing some of these assets can be difficult for retail investors.
The solution here is an exchange-traded fund, or ETF, that holds one or more of the aforementioned income-generating assets in the underlying portfolio. The ETF structure can provide investors with a more transparent, accessible and cost-effective way of gaining exposure to income assets.
“Another key benefit of income ETFs compared to selecting a few individual companies is diversification, as they invest in a basket of income-generating assets that can help to mitigate risk and provide a more stable income stream,” says Rohan Reddy, director of research at Global X ETFs.
Here are seven of the best income ETFs on expert watchlists in 2023:
| Income ETF | Yield (trailing 12 months) |
| FlexShares High Yield Value Scored Bond Index Fund (ticker: HYGV) | 8% |
| iShares Preferred and Income Securities ETF (PFF) | 5.5% |
| ETFMG Sit Ultra Short ETF (VALT) | 2.1% |
| Global X Nasdaq 100 Covered Call ETF (QYLD) | 13.7% |
| Global X SuperDividend REIT ETF (SRET) | 8.1% |
| Global X SuperDividend ETF (SDIV) | 14.7% |
| JPMorgan Equity Premium Income ETF (JEPI) | 11.5% |
FlexShares High Yield Value Scored Bond Index Fund (HYGV)
The upward march in bond yields has been particularly beneficial to high-yield bonds, also known as junk bonds because they sit below what is considered investment grade. These are corporate bonds with a credit rating below BBB. To compensate investors for the higher risk, high-yield bonds often pay a higher coupon than investment-grade bonds.
An interesting high-yield bond ETF to consider is HYGV. “We build HYGV’s index in four steps,” says Eric Williams, senior fixed-income portfolio manager at Northern Trust Asset Management. The steps include assessing for value, quality and liquidity, in addition to applying constraints on duration, credit quality and turnover. HYGV currently pays a trailing-12-month yield of 8% and charges an expense ratio of 0.37%, or $37 a year per $10,000 invested.
iShares Preferred and Income Securities ETF (PFF)
“Preferred shares are an interesting ‘hybrid strategy’ — they sort of act like debt, but also move like equities,” says Derek Horstmeyer, professor of finance at the George Mason University School of Business. “If you want an income-generating asset class that has more risk than bonds but less risk than equities, they might appeal to you,” Horstmeyer says.
The yield generated from these preferred shares also has the potential to be taxed at the lower qualified dividend income rate, which is lower than the short-term capital gains or ordinary income rate. A simple, no-frills index ETF to track preferred shares with is PFF, which had a trailing-12-month yield of 5.5% as of Jan. 31 and charges a 0.45% expense ratio.
ETFMG Sit Ultra Short ETF (VALT)
Income investors looking for a lower-risk asset to shield against the risk of further interest rate increases might prefer super-short-term, actively managed bond ETFs like VALT. “Short-duration investment-grade bond ETFs may be attractive today while the yield curve is still inverted,” says Bryce Doty, senior vice president at Sit Investment Associates, referring to the current situation of longer-dated bonds yielding less than shorter-dated ones.
This ETF holds a portfolio of investment-grade U.S. corporate, municipal and government fixed- and floating-rate bonds. The result is a very short average duration of just 1 year, which leads to low interest rate sensitivity, while still ensuring a good yield to maturity of 5.25%. The ETF has a trailing-12-month yield of 2.1%. It has attracted just over $124 million in assets under management, or AUM, and charges a 0.3% expense ratio.
Global X Nasdaq 100 Covered Call ETF (QYLD)
“Covered call ETFs invest in a diversified portfolio of stocks and sell, or ‘write,’ call options on the underlying individual companies or indices,” Reddy says. “The result is a regular income stream through the premiums received from selling call options,” he says. The mechanics of options pricing tends to benefit these funds when market volatility trends high, as that increases options premiums.
A highly popular covered call ETF is QYLD, which tracks the Nasdaq 100 index. While the Nasdaq 100 normally does not yield much due to its high concentration of technology and growth stocks, QYLD currently pays a 12-month trailing yield of 13.7% thanks to the covered call overlay. The ETF has made monthly distributions for nine consecutive years. QYLD charges a 0.6% expense ratio.
Global X SuperDividend REIT ETF (SRET)
“REITs are companies that own, operate or finance income-generating real estate properties,” Reddy says. “They are required to distribute at least 90% of their taxable income as dividends, which makes them a popular choice for investors seeking regular income,” he says. To access a portfolio of REITs selected for high yields, investors could consider SRET.
[See: 9 High-Yield Stocks to Buy.]
SRET currently invests in 30 of the highest-yielding global REITs and has a track record of seven consecutive years of monthly distributions. “The selection process for SRET involves screening a broad universe of REITs based on dividend yield, followed by a filter to remove distressed or highly volatile constituents,” Reddy says. SRET charges a 0.58% expense ratio and has a 12-month trailing yield of 8.1%.
Global X SuperDividend ETF (SDIV)
Investors wishing to avoid complex derivatives strategies or fixed-income assets can opt for more traditional dividend-yielding stocks. Instead of screening for and picking individual high-yield dividend stocks, investors can opt for an ETF that does the work on their behalf, such as SDIV. This ETF holds 100 of the highest-yielding global dividend ETFs and has paid out monthly for 11 consecutive years.
“High-yield equity ETFs can provide investors with higher returns than traditional fixed-income ETFs due to their focus on dividend-paying stocks,” Reddy says. “They also offer diversification benefits by investing in a wide range of companies across various sectors and geographies,” he says. SDIV currently pays a 12-month trailing yield of 14.7% and charges a 0.58% expense ratio.
JPMorgan Equity Premium Income ETF (JEPI)
A highly popular income ETF that outperformed in 2022 was JEPI. While the benchmark SPDR S&P 500 ETF (SPY) lost 18.2% with dividends reinvested, JEPI only fell 3.5% for the year. The ETF is actively managed, combining a selection of defensive stocks selected via bottom-up fundamental research along with exposure to covered call options on the S&P 500 index.
Currently, JEPI has 129 holdings weighted based on the ETF’s proprietary risk-adjusted stock rankings. The stocks in this ETF tend to be blue-chip U.S. dividend payers such as PepsiCo Inc. (PEP), Coca-Cola Co. (KO), UnitedHealth Group Inc. (UNH) and Abbvie Inc. (ABBV). JEPI currently pays a 12-month dividend yield of 11.5% and charges a 0.35% expense ratio.
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