F W S
Fa b ian
W e a l th S trat e g i e s
The Ultimate Income Strategy
Special Report
By Doug Fabian, President, Fabian Wealth Strategies
February 2012
“You have to make your money work for you.”
We’ve all heard this adage, and to be certain, it is the key to income investing success. And while
the truth of this statement can’t be argued, it’s definitely a lot easier to say than to actually do.
At Fabian Wealth Strategies, we take the concept of making your money work for you very seriously.
But what does it actually mean to have your money working for you, and how can we help you
achieve that noble goal?
Answering these questions is what this report is all about.
Our firm specializes in helping clients preserve their investment capital while also generating the
income they need to live the life they desire. However, conventional Wall Street wisdom usually pits
the twin objectives of capital preservation and high income generation at odds.
According to the official party line, you can either A) preserve capital by sticking your money in
“safe” investments that offer a pitifully low yield, or B) put your money at risk in dividend stocks
and other high-yield equities and be willing to wait out the inevitable market declines that are
inherent in these kinds of securities.
Well, we think this conventional wisdom is flawed, and we know there’s a better way to manage
your income assets. You see, instead of the either-or choice of safety vs. yield, we’ve developed a
strategy designed to maximize income while at the same time managing the various risks inherent
whenever you put money to work in the market.
We call it our “Ultimate Income Strategy,” and when you’re finished reading this report, you should
have a good sense of how the strategy works, and more importantly, how it allows your money to
work for you.
The 3 Legs of the Strategy
The Ultimate Income Strategy can best be described as an approach to investing that uses a
variety of investment tools in conjunction with a proven trend-following methodology developed
over three decades ago, and that continues to be refined to this day.
The overarching tactic used in the Ultimate Income Strategy is to move money in and out of a
combination of what we call the “3 legs” of the strategy, which are 1) dividend paying equities,
2) fixed-income and 3) alternative income investments. When conditions are conducive to each
respective asset class, we get our money exposed to that class. Conversely, we move money out
of these respective sectors as soon as we determine conditions have become unfavorable.
At Fabian Wealth Strategies, we take advantage of these various asset classes by purchasing
exchange-traded funds, also known as ETFs. The ETFs we use offer very low expense ratios, and
are objectively managed, which means we know exactly what each fund owns at any moment.
Because ETFs are traded on an exchange just like stocks, they are the ultimate in flexible
investment instruments. This flexibility is important, as the Ultimate Income Strategy requires
the ability to move in and out of particular sectors as soon as we think conditions warrant such
a move.
Another critical component of the Ultimate Income Strategy is to have both minimum and
maximum exposure limits in any one asset class. The diversification of having a portion of an
income portfolio in equity funds, bond funds and alternative funds, virtually at all times, allows
our portfolio to nearly always be generating income regardless of prevailing market winds.
Our actively managed income-generating strategy also allows us to fine-tune our asset allocation
mix so that it can take full advantage of whatever the market throws our way. Part of the active
management in our Ultimate Income Strategy is the use of macro themes to select areas of the
market we believe will perform well over the long term.
The overriding objective in the Ultimate Income Strategy is to generate a robust income stream
while also maintaining an attractive yield regardless of the climate in the financial markets.
Building the Ultimate Income Portfolio
The process of building the Ultimate Income Portfolio requires that we be keenly aware of
myriad conditions affecting nearly every aspect of the financial markets. This awareness and
understanding has been garnered through years of experience in the trenches helping investors
preserve capital and generate income. This same experience has taught us how to shift our
income portfolio allocations so that they are in the best position to perform well.
The first step in building our Ultimate Income Portfolio is to determine our position size in
2
dividend-paying equity funds. Here we are talking about ETFs that hold stocks known to pay
solid dividends.
A position size of between 10% and 40% of our overall income portfolio is used, with the size
of that allocation based on current market conditions. For example, we may have only a 10%
allocation to dividend-paying equities during a bear market, as the general climate here would be
pushing the value of dividend equities lower. Conversely, if stocks are in a bull market, we may
maximize our allocation to dividend-paying equity funds by putting up to 40% of the portfolio in
these assets.
One key to determining how much of our income portfolio is
Dividend Equity Funds
Ticker
DVY
HDV
IXP
XLU
DWX
DEM
DLN
Name
iShares Dow Jones Select
Dividend Index
iShares High Dividend Equity
Fund
iShares S&P Global
Telecommunications
Utilities Select Sector SPDR
SPDR S&P International
Dividend
WisdomTree Emerging
Markets High Yield
WisdomTree Emerging
Markets High Yield
devoted to dividend-paying equities has to do with where the
Yield%
overall market is relative to its long-term moving average. Here we
3.30
rely on the 200-day moving average. If stocks currently trade above
2.66
their 200-day average, conditions are bullish and therefore merit
a higher dividend-equity allocation. If, however, stocks trade below
4.69
their long-term moving average, then conditions are bearish, and
4.31
that merits a lower level of dividend-equity exposure.
4.03
The Dividend Equity Funds table lists just some of the dividend-
4.22
paying equity ETFs we use in the Ultimate Income Strategy.
These dividend-paying equity ETFs give you excellent potential for
3.20
both capital appreciation and current income. And while they are
great tools for helping you achieve these dual goals, they cannot
*Yield data as of 12/31/11
be bought without regard to risk. That’s why we monitor all of our
income positions, and why we actively size them according to market conditions.
One of the best funds on the list here is the iShares High Dividend Equity Fund (HDV). This is
one of the newest ETFs to come out with an equity dividend focus. Making its debut in March,
2011, HDV has become one of our favorite ways to gain exposure to some of the biggest and
strongest dividend-paying companies out there. To give you a sense of what kind of companies
we’re talking about, HDV counts among its top holdings stalwart dividend giants such as
telecommunications firm AT&T, oil behemoth ConocoPhillips and healthcare products giant
Kimberly-Clark.
When you own HDV, you essentially own 75 stocks in the Morningstar Dividend Yield Focus
Index. These are some of the oldest, largest and most established businesses in America,
businesses with long and brilliant track records of paying dividends to shareholders year in and
year out. This ETF pays its dividend quarterly, so every three months you can ring the register
with the income you get from this holding. During a slow-growth environment, investors tend to
flock to companies with a steady hand, and that keep earning money despite difficult economic
conditions. In other words, the companies contained in HDV.
3
Cash, 5%
Bull Market Allocations
In a bull market, you generally want to
Dividend
Equities
40%
have more dividend-equity exposure than
at any other time. The chart here shows
Alt
Investments
25%
Fixed
Income
30%
what our Ultimate Income Portfolio would
look like in a bull market.
The second step in building our Ultimate Income Portfolio is determining our fixed-income, or bond,
exposure. Here we seek a position size in the range of 20% to 60% of our overall portfolio. The
current environment in the bond market, i.e. interest rates, helps determine the extent of our fixedincome allocation.
In addition to the overall trend in the bond market, part of the Ultimate Income Strategy diversifies
the type of bond funds we will own. For example, at times we may combine a bond fund with
extremely low credit risk with bonds that have higher credit risk but that pay higher yields. It’s a
blend of quality and yield that we seek to achieve with our fixed-income exposure and that helps
offset the risk inherent when investing in bonds.
The Fixed-Income Funds table lists some of the fixed-income bond
Fixed-Income Funds
Ticker
IEF
TLT
TIP
AGG
MBB
LQD
HYG
CIU
EMB
Name
iShares Lehman 7-10 Year
Treasury Bond
iShares Lehman 20+ Year
Treas Bond
iShares Lehman TIPS Bond
iShares Lehman Aggregate
Bond
iShares Lehman MBS FixedRate Bond Fund
iShares iBoxx Investment
Grade Bond
iShares iBoxx High Yield
Corporate Fund
iShares Lehman
Intermediate Credit Bond
iShares JPMorgan Emerging
Markets Bond
*Yield data as of 12/31/11
4
ETFs used in the Ultimate Income Portfolio.
Yield%
2.15
3.76
2.47
2.85
2.97
4.09
One of the best ways to gain exposure to high yield, intermediateterm bonds is with the iShares High Yield Corporate Bond Fund
(HYG). This fund seeks investment results that correspond
generally to the price and yield performance, before fees and
expenses, of the iBoxx $ Liquid High Yield Index. Basically,
this diversified fund is comprised of high yield debt of over 450
companies with credit ratings below BBB and an effective average
duration of less than 5 years.
It is during bullish times that we would seek to get a higher
7.18
3.32
allocation to bond funds such as HYG. In addition, as a core
strategy in our Ultimate Income Portfolio, we will look to pair a
high yield bond fund with a high quality bond fund to offset the
4.52
credit risk.
One of the best ways to gain exposure to high quality, long-term government bonds is with the
iShares Barclays 20+ Year Treasury Bond (TLT). This fund seeks to approximate the total rate of
return of the long-term sector of the United States Treasury market as defined by the Barclays
Capital U.S. 20+ Year Treasury Bond Index. That index includes all publicly issued, U.S. Treasury
securities that have a remaining maturity greater than 20 years, are non-convertible, and that
are rated investment grade by Moody’s Investors Service. Basically, this is the most stable of all
government issued debt, virtually anywhere in the world.
In 2011, Treasury bonds were one of the best performing asset classes which confirmed their
reputation as perhaps the ultimate flight-to-safety play. It is during bearish times that we would
seek to get a higher allocation to bond funds such as TLT.
Transitional Market Allocations
In a transitional market, i.e., a market where
stocks are bouncing around their trend lines
trying to establish a bullish or bearish identity,
Dividend
Equities
20%
Cash
25%
we would decrease our exposure to dividend
equities and increase our exposure to bonds
and cash. The chart here shows what our
Ultimate Income Portfolio would look like in a
transitional market.
Fixed
Income
45%
Alt
Investments
10%
The final step in building the Ultimate Income Portfolio is determining our use of what we
call alternative income investments. Because of the unconventional nature of these
investment vehicles, our position size would generally be limited to anywhere from 0% to 25%
of our overall portfolio.
When we talk about alternative income investments, we are talking about real estate investment
trusts, or REITs, master limited partnerships, or MLPs, and closed-end mutual funds to name
just a few. These alternative income investments are used primarily as tools to enhance our
portfolio’s yield. They also can be used to diversify our income-generating assets, as many of
these alternative investments have little or no correlation with either the trend in the wider stock
market, and/or the trend in the bond market.
5
Here it’s all about tailored exposure to market segments that are
Alternative Income Funds
Ticker
PFF
CVY
HGI
AMLP
ENY
IYR
PCEF
Name
iShares S&P U.S. Preferred
Stock
Guggenheim Multi Asset
Income Fund
Guggenheim International
Multi Asset Inc
Alerian MLP ETF
Claymore Canadian Energy
Income ETF
iShares Dow Jones US Real
Estate
PowerShares CEF Income
Composite
performing well, and many times that performance is being driven
Yield%
by conditions specific to a particular industry.
6.15
The Alternative Income Funds table shows some of the alternative
5.42
income investments we use in the Ultimate Income Portfolio.
One of the more intriguing funds on this list is actually a
2.79
newcomer to the world of ETFs, and it’s the Alerian MLP Exchange-
6.20
Traded Fund (AMLP). This fund is a powerful mix of 25 energy
5.39
infrastructure master limited partnerships. The unique structure
4.13
8.36
*Yield data as of 12/31/11
of this fund allows for the elimination of any K-1 tax reporting,
yet the fund still pays qualified dividends to shareholders. Think
of AMLP as an energy play, because as North America’s energy
transportation dynamics change, billions of investment dollars will
be required for new natural gas and oil pipeline infrastructure. That
puts energy MLPs at the forefront of this growth trend.
Active management is the key to a thriving income portfolio. You can no longer simply buy and
hold an asset and just wait for the income to roll in. These days, you have to go out and grab it.
At Fabian Wealth Strategies, we know how to grab it
Bear Market Allocations
In a bear market, we would significantly
Dividend
Equities
10%
Cash
25%
decrease our exposure to dividend
equities and significantly increase our
exposure to fixed-income assets such as
bonds. The chart here shows what our
Ultimate Income Portfolio would look like
in a bear market.
6
Fixed
Income
60%
Alt
Investments
5%
Now Is the Time To Take the Ultimate Step
The right mix of income-generating assets, and the expertise to navigate through changing market conditions.
These are the two critical components of the Ultimate Income Strategy, and it’s what we are proud to provide our
Fabian Wealth Strategies’ clients.
By far the biggest problem we see with new client income portfolios is they tend to be too concentrated in one
asset class. Sometimes, a high concentration in one sector works well, but over time, it will doom your income
holdings to a life of volatile or mediocre returns.
We believe that the best way you can achieve both capital appreciation and income generation is by diversifying
your income portfolio among the three asset classes outlined in this report. But we can only help you if you get in
touch with us first.
Success requires planning, and planning for success is what we do at Fabian Wealth Strategies.
We are a fee-only wealth management firm that helps clients achieve their goals by providing a clear pathway to
success. At Fabian Wealth Strategies, we help you take the steps necessary to get your income portfolio on the
right track.
So, take the ultimate step, and contact us today to discuss our
current allocation and strategies by calling 800-391-1118 or visit
www.fabianwealth.com.
Sincerely,
F W S
Fa b i a n
W e a l th S trat e g i e s
3070 Bristol St, Suite 610 • Costa Mesa, CA 92626 • T. 800.391.1118 • F. 714.668.9813
W W W . F A B I A N W E A L T H . C O M
Fabian Wealth Strategies, Inc. is a registered investment adviser with the U.S. Securities and Exchange Commission. Doug Fabian is a registered investment advisor
representative. The information expressed by Fabian Wealth Strategies is for informational purposes only and should not be construed as a recommendation to buy, sell, or
hold any specific security. Investors must meet minimum asset size of $250,000 in combined accounts. Fabian Wealth Strategies clients may own investments described
in this report. Not all client accounts will replicate the exact allocations described above. All data in this report is as of 12/31/2011 unless otherwise noted. Yield data
courtesy of Bloomberg Professional.
Investing involves risk, including the possible loss of principal. Carefully consider the investment objectives, risks, and charges and expenses of any exchange traded fund
before investing. This and other information can be found in their prospectuses.