It has been a tough time to be an income investor over the past half decade.
Start with the Fed’s zero interest rate policy (ZIRP). While helping pump up asset prices, the policy has punished savers and retirees who depend on their accumulated savings and have grown increasingly frustrated trying to eke out income from their investments.
And today, there is the looming threat of rising interest rates in the United States. Any move by the Fed will hit all types of income investments hard. A sign of what could happen occurred in May 2013, when then-Fed Chairman Ben Bernanke introduced the word “tapering” into the global financial lexicon.
The mere hint of tapering of asset purchases by the Fed caused the bottom to drop out of virtually all “safe” income investments. Income investors suddenly found that even if a diversified portfolio of U.S. Real Estate Income Trusts (REITs) boasted a double-digit percentage headline yield, that mattered little if the principal dropped by 20%.
Today, many income-generating investments like Real Estate Investment Trusts (REITs) and high-yield bonds offer high — even double-digit — headline yields. But a collapse in principal has made some of these investments generate negative returns over the past 12 months despite their high cash pay-outs. Throw in the appreciation of the U.S. dollar and the tumbling price of oil, and investments in foreign-currency-denominated international high-yield and energy-related Master Limited Partnerships (MLPs) have struggled.
Top Income Investments in 2015
Although none are shooting the lights out, a handful of income-generating investments have eked out S&P 500-beating gains so far in 2015. And each has done so using very different investment strategies, continuing to ring the cash register of steady income every month or every quarter.
- Pimco Municipal Income Fund II (PML) — 5.37% Gain
PIMCO Municipal Income Fund II (PML) is an actively managed, highly leveraged municipal fund. The fund typically generates its large distribution by venturing down the credit spectrum into non-rated and junk-rated muni debt, focusing on the intermediate and long portions of the yield curve, then leveraging its holdings.
Say the words “invest in municipal bonds,” and most investors can barely stifle a yawn. Yet returns on municipal bonds have beaten the broader stock market in 2015 and are among the best-performing income investments over the past five years.
That’s a surprise. After all, in 2012, major cities in the United States such as Detroit and San Bernardino, California, went bankrupt. Analyst Meredith Whitney grabbed headlines with her prediction that there would be between 50 and 100 “significant” municipal bond defaults in 2011, totaling “hundreds of billions” of dollars. Very little of this doom and gloom came to pass.
PML has maintained a level income-only monthly distribution of $0.065 per share since 2007. PML has logged returns of an annualized 9.41% over the past five years. The fund’s total expense ratio is a relatively high 1.16%.
PML has risen 2.61% so far this year and, with dividends, it has generated a total return of 5.37% year to date.
- UBS ETRACS Wells Fargo Business Development Company ETN (BDCS) — 4.79% Gain
This exchange-traded note (ETN) tracks the Wells Fargo Business Development Company index. The index is designed to mirror the performance of all Business Development Companies (BDCs) that are listed on the New York Stock Exchange or NASDAQ.
The BDC business model is to lend to small and mid-sized companies at high-yield equivalent rates while also at times taking equity stakes in such companies. Think of it as the low-end version of its higher-profile cousin, private equity.
Based on a market-cap-weighted index, this ETN is highly concentrated with its top four holdings, Ares Capital Corp. (ARCC), Prospect Capital Corp (PSEC), American Capital Ltd. (ACAS) and FS Investment Corp (FSIC), which together account for 38.29% of its investments.
The BDCS yields 7.90% and pays out dividends quarterly. It charges an annual fee of 0.85%.
BDCS has risen 0.74% so far this year and, with dividends, it has generated a total return of 4.79% year to date.
- Global X SuperDividend ETF (SDIV) — 4.46% Gain
The ETF tracks the Solactive Global SuperDividend Index, which invests in the performance of 100 equally weighted companies that rank among the highest-dividend-yielding equity securities in the world.
Now, remember that “Global” doesn’t mean exclusively international. SDIV has about one-third of its investments in U.S. stocks. The remainder is invested in high-yielding companies in Europe, Australia, Asia, Canada and Latin America.
In terms of sectors, it’s no surprise that SDIV focuses on the “big four” of dividend investing — real estate, financial services, telecommunication and utilities.
SDIV yields an impressive 5.71%, pays dividends monthly and charges a fee of 0.58% annually.
SDIV has risen 2.34% so far this year, and, with dividends, it has generated a total return of 4.46% year to date.
- The PowerShares S&P 500 BuyWrite (PBP) Exchange Traded Fund — 4.12% Gain
PBP tracks the CBOE S&P 500 BuyWrite Index. This index invests 80% or more of its assets in common stocks of the 500 companies on the S&P 500 Index and then writes, or sells, call options against them.
Specifically, PBP sells one-month at-the-money S&P 500 call options against the portfolio at regular intervals. Dividends paid on the component stocks underlying the S&P 500 and the dollar value of option premiums received from written options are reinvested. Dividends are paid out on a quarterly basis.
This strategy works best when the market is flat to mildly bullish, which pretty much reflects conditions today. Only if the S&P 500 suddenly shoots up high will PBP’s returns be limited because the options will be exercised. Even then, however, PBP will receive the cash from the covered calls.
PBP yields 4.88% and pays out income quarterly. It has generated an average 8.76% annual return over the past five years. It charges an annual fee of 0.75%.
PBP has risen 3.96% so far this year and, with its payouts, it has generated a total return of 4.12% year to date.
In case you missed it, I encourage you to read the e-letter column from last week about investing in the French “socialist paradise”. I also invite you to comment in the space provided below my commentary.