The search for income is always an interesting investment dynamic. Those that stray too far out into high yield or esoteric securities tend to find themselves experiencing above-average volatility or non-correlated returns. Conversely, if you stay too conservative in duration or credit quality, your total return is likely to be measured in pennies rather than percentage points. The nexus of those two extremes is ultimately the sweet spot that will produce dependable income and steady returns.
The recent sell off in stocks and high yield asset classes this year has been uncomfortable for those that are overexposed to those investments. Nevertheless, it has also created an area of opportunity to survey what has held up well, identify underperformers, and make changes as necessary to realign with your risk tolerance and goals.
Let's take a look at some of the key asset classes that income investors rely on and identify areas that are showing promising characteristics.
Dividend Stocks
The majority of dividend paying stocks have underperformed in 2015 as an overly heavy focus on energy, utilities, and consumer staples companies have weighed on returns. Nevertheless, after the big drop, we are starting to see signs of life in these sectors that warrants further attention.
One of the largest and most diversified ETFs in this space is the Vanguard High Dividend Yield ETF (VYM). This fund owns over 400 high dividend paying stocks with a current 30-day SEC yield of 3.56%. A fund such as VYM is appropriate as a core equity holding to provide stock correlation with a focus on equity income that is paid quarterly to shareholders.
VYM experienced its fair share of downside volatility, but has recently broken back above its 50-day moving average on the upside to start October. The higher lows and higher highs in the chart should be noted as a strong sign that momentum is building in this ETF as well.
I currently own VYM for clients in my Strategic Income Portfolio because of its broad diversification and ultra-low expense ratio of just 0.10%. Another fund that can be used as a suitable alternative is the iShares Core High Dividend ETF (HDV), which similarly focuses on minimizing expenses and honing in on high quality dividend stocks.
