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Safe Ways to Double or Triple Your Cash Yield
Safe Ways to
Double or Triple
Your Cash Yield
Special Report for subscribers to Kiplinger’s Investing for Income
Ultrashort Bond Funds: Extra Yield With Extra Safety
A
s you await higher rates on savings deposits and money-market mutual funds,
a slew of new or well-seasoned low-risk
bond funds are an ideal solution to the frustration
of earning literally next to nothing on your cash
reserves. These are called ultra-short
bond funds and have proven
their capacity to deliver
fair yield with minimal
price risk.
Fund firms
including Baird,
Oppenheimer, Putnam
and Vanguard have
introduced funds in
this niche over the past
several years. They join
earlier entrants such as Pimco
Enhanced Short Maturity Active
(an exchange traded fund with the symbol
MINT) that has attracted $4.4 billion since its
launch in 2009.
With the average taxable money-market fund
still yielding 0.02% (that’s 20 cents a year on a
$1,000 deposit), the average 0.8% these ultrashorts now distribute has been attracting legions
of savers and investors. The category’s total assets
have reached $72.6 billion, while money-market
funds’ assets have been stuck on $2.7 trillion for
around six years.
This boomlet in ultra-short funds is no surprise. Investment advisers and fund-company
officials are looking everywhere for alternatives
to the traditional cash holding tanks that do not
carry the risks to your principal of owning, say,
intermediate to long-term Treasury bonds. A welldisciplined ultra-short fund rarely moves
more than a cent a day in share
price and should stay anchored in a narrow range.
For example, Vanguard’s
Ultra Short-Term Bond
investor (VUBFX),
which first appeared at
$10 a share in February 2015, has never
traded below $9.99
nor above $10.01.
Based on Vanguard
Ultra Short-Term’s monthly distribution in May, the fund pays an
annualized yield of 0.95%. That’s twice the yield of
0.46% from Vanguard’s prime money fund.
Is this worth the extra risk?
Bank savings, of course, don’t threaten the loss of
even one cent on every $10, thanks to federal deposit insurance. And you have ATM access to your
continued on next page ...
Copyright 2016 • The Kiplinger Washington Editors, Inc. • 1100 13th Street NW • Washington, DC 20005
Safe Ways to Double or Triple Your Cash Yield
continued from previous page ...
remember the turmoil of 2008 and are doing what
they can to steer the steadiest of courses. So keep
money. You don’t have to read a prospectus or open calm and take the extra income.
an account with a brokerage or a fund firm. And
if you look back to the market crash and financial
crisis of 2008, you’ll find that a few ultra-short bond
portfolios melted down due to mismanagement
and the markets’ unexpected illiquidity. Schwab
YieldPlus, once the largest in the category, had hefty
mortgage-backed holdings and lost 35% in 2008.
t’s been an up-and-down year for stocks, but
That fund was soon liquidated and Schwab’s list of
popular blue-chip companies are as committed
no-load and no-transaction fee funds now includes
as ever to rewarding shareholders with excel21 ultra-short bond portfolios—none carrying its
lent dividends. The research firm FactSet reported
own brand name.
that for all of 2015, U.S. dividend payments hit an
That disaster taught savers that nothing is
all-time high of $420 billion. The average yield on
guaranteed and fund management firms have
the Standard & Poor’s 500 of 2.2% is up from 2.0%
learned to be more cautious. Also, new regulations
in the fall of 2014. The Dow Jones industrials are
have forced money-market funds into a narrower
paying an average of 2.6%. And while the pace of
range of allowable securities, creating additional
individual company increases is all over the lot, the
opportunities for ultra-short portfolios. The dollar- recent weakness in stock prices makes the yields
weighted average maturity of money-fund holdlook super. Here are four that have raised dividends
ings is now limited to 60 days, whereas securities in at least 10 years in a row and are trading at attracultra-short funds currently have maturities of nine
tive entry prices… or good prices to accumulate
months to one year.
more shares if you’re already a shareholder.
Should the Federal Reserve ever embark on a
AT&T (symbol T) was the highest-yielding stock
series of interest rate hikes, the ultra-short funds
in the Dow and while it’s no longer in the 30, it
stand to lose some principal, so investors might lose remains reliable as its wireless business expands
some money. But through the first five months of
regularly. The original AT&T phone company was
2016, the category’s average total return is 0.47%
known for its dividends and the latter-day version
and more funds are in the plus column than have
is no different. At $39, it yields 4.9% and trades at
suffered a loss. If you’re chary of possible losses, pay a fair price of 13 times estimated earnings for the
special attention to the duration of any of these
next 12 months.
funds you consider. The shorter the better. That
Caterpillar (CAT) has its doubters because of
Vanguard fund we mentioned, VUBFX, has both
the economic slowdown in many foreign markets,
a duration and a maturity of one year. Duration is
but after the machinery maker’s shares dipped to
an estimate of how much the value of a bond (or a
$74 from $100, the yield is a super 4.3% and that’s
fund’s net asset value) should rise or fall if interest
at a reasonable price-earnings ratio of 21.
rates go up or down by a whole percentage point.
ExxonMobil (XOM) shares are bouncing back
The Fed would have to do a lot of tightening befrom their winter low and at $88, the dividend
fore this fund would feel any pain—and then new
yield is 3.3% and the company managed to hike
investments would yield a little more anyway.
dividends 4.2% this year—quite the opposite of
Another element to watch is the consistency of most energy companies. That tells you the payout is
the monthly distributions. A fund whose payments uber-reliable.
vary greatly is probably taking some chances, relaJohnson & Johnson (JNJ) of Band-Aid, drug
tively speaking, while one whose distribution varies and medical-device fame rarely yields more than
only a cent or two is probably rolling over matured 3%, but it still pays 2.7% at $115. Dividends reinvestments into the same type of safe places. But
cently went up 6.8% and normally rise 7% to 10%
our experience is that the managers of these funds
a year.
Great Values on
Four Dividend-Payers
I
Copyright 2016 • The Kiplinger Washington Editors, Inc. • 1100 13th Street NW • Washington, DC 20005
Safe Ways to Double or Triple Your Cash Yield
Look at a Dividend-Paying
ETF for Income
I
f you’re looking for dividend income but don’t
want to invest in individual stocks, consider
one or more of the dozens of income-focused
exchange-traded funds. ETFs offer diversified portfolios at low costs.
Three of the oldest and largest ETFs, in fact, are
known for dividends. Vanguard Dividend Appreciation ETF (symbol VIG, $82, yield 2.2%)
launched in 2006 and has $21 billion. IShares Dow
Jones Select Dividend Index (DVY, $83, 3.2%)
dates to 2003 and holds $15 billion. SPDR S&P
Dividend ETF (SDY, $82, 2.4%) has $13 billion
and began in 2005. A fourth fund has lately cracked
$10 billion: Vanguard High Dividend Yield
ETF (VYM, $71, 3.1%), started in 2006 alongside
Vanguard Dividend Appreciation. Its mission is to
own stocks with a higher-than-average yield and
weight them by size, so one-eighth of the fund is in
ExxonMobil, Microsoft and Johnson & Johnson. By
contrast, VIG’s largest holding is Johnson & Johnson
but ExxonMobil is not in the fund’s top 25. VIG’s
requirement is that companies it owns “have a record
of increasing dividends over time,” but not necessarily with a high dividend yield such as 3%.
All four funds, though, overlap somewhat
because they concentrate on U.S. blue-chip companies. They are suitable not only for income but as a
core position in the stock market.
None of these funds will diverge greatly from
one another, since you’re getting a collection of
obvious widely-held investments that correspond
closely, if not exactly, to the broad market averages.
But the list of more specialized dividend ETFs has
become lengthy. If you screen for dividend funds on
the ETF database www.etfdb.com, you’ll find 124
funds that pursue dividend income in every way
from tracking focused indexes to constructing international and single-country dividend portfolios.
Some of these are silly. Some are leveraged, which
means the distribution rate can be over 6% but the
risk is magnified if stock prices fall. But a few are
original and creative. One that’s appropriate for yield
hogs is the ALPS Sector Dividend Dogs ETF
(SDOG, $40, 3.2%). This has just 49 stocks instead
of the hundreds in the largest funds, but the 49 are
chosen to give you the highest-yielding companies in
an array of sectors such as banking, pharmaceuticals
and utilities. This method beat the S&P 500 in 2013
and 2014, just about kept up with it in 2015, and is
ahead a terrific 13% so far in 2016.
Dividends continue to live up to their reputation as a way to smooth out stockmarket volatility
and build your long-term total returns. For a while
last year and early in 2016, the oil and gas collapse
hurt the dividend-stock indexes because some energy companies like ConocoPhillips were forced to
cut or eliminate what had been high dividends. This
year, though, dividend-paying stocks in general have
regained their edge over the broad indexes like the
Dow Jones Industrials and the Standard & Poors
500 as oil shares recover and other notable dividend
payers such as electric utilities flourish. There’s no
reason to let temporary stresses chip away at your
confidence in dividends—or the many good funds
that make it easy to grab them month after month.
New Preferred Stocks Join
the High-Yield Party
T
he shaky outlook for junk bonds is a shot
in the arm for aficionados of preferred
stocks. The yields of preferreds to their first
call date are sometimes just a couple of percentage
points less than junk debt’s yields to maturity. And
except for preferreds issued by distressed coal, oil
and gas companies, preferred share values aren’t
under pressure—unlike high-yield bonds and funds,
which are suffering from fears of mushrooming
defaults and credit downgrades.
A key marker of preferreds’ strength and popularity: the scarcity of issues trading at or below
par value, most commonly $25. Par value is also
generally the price at which the issuer may call (or
redeem) the shares five years after their date of issue.
And it’s usually the limit that governs whether you
can be comfortable buying—although if the coupon
is big enough and the call date is several years off, it’s
continued on next page ...
Copyright 2016 • The Kiplinger Washington Editors, Inc. • 1100 13th Street NW • Washington, DC 20005
Safe Ways to Double or Triple Your Cash Yield
okay to pay as much as $1 over par. (Because many
preferreds are lightly traded, be sure to enter
a limit order when you buy.)
The 5.70% preferred shares of First Republic
Bank (symbol FRC-F) provide an apt example of
the current market. At its April 15 price of $25.89,
FRC-F traded to yield 4.9% to its first call date in
June 2020. Remember that most preferreds pay
tax-favored qualified dividends; interest on corporate bonds, by contrast, is taxed as ordinary income.
That’s a valuable tax preference, especially when you
consider that First Republic’s 2.375% bonds
due in 2019 are priced at 100, and its common
shares (FRC, $70.83) yield just 0.8%. The bank, a
trust company from San Francisco, has a Baa3 rating from Moody’s and BBB‑ from S&P.
Alas, such opportunities are no longer as prevalent as they were last year. A mid-April market scan
turned up hundreds of bank and utility preferreds
trading for $27 or $28; a bunch of investmentgrade real estate investment trust preferreds (whose
payouts are taxed at ordinary rates, much like REIT
common dividends) were priced at $26 and change.
That’s rich. In fact, if you’re a longtime shareholder,
think about cashing out to reinvest.
Steady appreciation has also rewarded owners of exchange-traded and closed-end funds. The
best-known ETF in this arena is iShares U.S.
Preferred Stock (PFF, $38.76, 6.5%), begun in
2007. PFF has a three-year annualized gain of 5.0%,
and a five-year total return of 6.0%. Its meager gain
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of 1.2% so far in 2016 is disappointing, but PFF has
become so massive, with total assets of $14.6 billion
(up from $9 billion two years ago), that its performance suffers because it has to pay premiums to buy
shares with the relentless inflows of cash.
Closed-end funds dodge that problem thanks to
their structure. Also unlike ETFs, closed-ends may
borrow money. In good times, that leverage benefits
CEFs such as Flaherty & Crumrine Preferred
Income Fund (PFD, $14.39, 7.5%). The fund
employs 35% credit, which is a factor in its threeyear annualized return of 6.5% and five-year annualized gain of 11.8%. PFD’s expenses are high, and
it’s now selling for a pricey 9.4% above its net asset
value. The rising premium is mostly responsible for
the fund’s 13.8% return so far this year. As a general
rule, you should pair PFF or another ETF, such as
PowerShares Preferred (PGX, $14.81, 5.6%),
with a closed-end. Just wait to buy CEF shares at
NAV or close to it. They’ll get there; PFD was discounted though most of 2015.
Here’s another tip, and it may be our best advice:
High interest (pun intended) in preferreds means
there are some decent new issues and, being new, they
cannot command premium prices. In March and the
first half of April, we saw 10 offerings selling at $25
from banks, REITs and private-equity investment
companies. By April 15, only two were trading above
$26 despite coupons as high as 8%. Watch for news of
such offerings—one source is www.cdx3.com—and
hold some cash so you can strike at an opportunity. K
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