Issue 48 • OCTOBER 22, 2009 Earning Higher Income in a Low Yield Market
However, if your goal is to aim for good, steady income from fixed income securities, you’re facing great challenges today. For one thing, interest rates on bank CDs, money market funds, and even short-term Treasury securities are locked at abnormally low yields. One-year jumbo CD rates, for instance, are just 1.6% ... making life quite difficult for income-oriented investors. Other potential threats lurk too ... including soaring federal budget deficits, not to mention the chronically weak U.S. dollar. The once almighty buck continues to lose value against global currencies ... DOWN another 14% in the nine months ended September ... and if the slide continues at this pace, it could easily lead to higher inflation down the road and potential lost value in EVERY dollar-denominated asset you own. Last week, I joined my colleagues Sharon Daniels, President of Weiss Capital Management, and Steve Chapman, Vice President and Portfolio Manager for the Weiss Diversified Income Builder program, to discuss options available to fixed-income investors amid these challenges. We covered a wide range of topics, including:
If you missed this special Webinar briefing last Wednesday, or just want to view it again to absorb all the details ... you can access a special, on-demand replay of the video here. But to read the insights and analysis in detail, here’s the first part of an edited transcript from the briefing: Editor’s Note: Go Here Now to View the Webinar in its Entirety!
Earning Higher Income in a Low Yield Market: Transcript Part ISharon Daniels, President Sherri Daniels: Mike, as Director of Research and Client Communications at Weiss Capital Management, you’re constantly reviewing economic data and keeping an eye on financial markets. Let’s start by recapping for us: How did we get to today’s extreme ultra-low yields? Mike Burnick: The Federal Reserve, desperate to prevent a total meltdown in financial markets a year ago, slashed short-term interest rates to the lowest point in history. Sherri: That was supposed to be an emergency measure! Mike: It was. But today ... one-year later ... short-term rates are STILL stuck near ZERO.
Mike: Long-term interest rates may drift higher due to worries about Washington’s rapidly growing deficits ... and the potential for inflation down the road. But for money markets, short-term CDs and Treasury bills, the answer is no, we don’t see rates heading higher anytime soon. In fact, according to the Fed’s most recent policy statement, they fully intend to keep rates “at exceptionally low levels ... for an extended period.”1 Translation: Investors should be prepared for a CONTINUATION of this low-yield market climate. Sherri: That’s so important and it bears repeating: Prepare for a continuation of low interest rates. Steve, what does this mean for retired investors focused on income or for those who depend on the income from their investments? Steve Chapman: It’s the great dilemma of my generation ... AND the generations that come after me. I want to work past my retirement age because I’m loving every minute of it. Still, I don’t want to HAVE to work to pay bills. But imagine the situation for those who are unable or unwilling to work in their retirement! Look how difficult it is to cope with the triple-whammy of meager Social Security payments ... AND low yields ... PLUS a falling dollar. Sherri: So, tell me, how are investors coping with this dilemma ... how can you earn higher current income in a climate of near zero yields? Editor’s Note: Go Here Now to View the Webinar in its Entirety! Steve: I speak to investors every day, and many don’t know what to do. I’m finding that many are taking on significantly more risk to make up for low yields—they’re investing in higher risk stocks and other growth investments hoping to improve their cash flow. Sherri: While it’s understandable that you may have to take more risk to earn a higher yield, taking on significant new risks today may NOT be a good idea. Steve: That’s the real problem, but many people feel they have no other choice. Instead, if you’re a retiree, or quickly approaching retirement, then I strongly suggest you shift, to some degree at least, from a wealth creation strategy to an income-producing strategy. Your priorities must change from growing your wealth to, taking advantage of yourwealth. In other words, all the money that you worked hard for will now have to work hard for you. Mike: Even if your primary focus is still on stocks for long-term capital growth, you still need to keep some portion of your portfolio in a relatively safer place ... that’s more important than ever after the turbulent markets we’ve seen over the past few years. Even if you don’t need regular monthly income, your fixed income holdings can still act as a very important stabilizer for your overall portfolio. Sherri: In other words, strike a balance between income and growth. Mike: As an example, during 2008, large-cap stocks plunged -37% in value. But an equal mix of different types of bonds, including Treasuries, Municipal bonds, and corporate bonds (both investment grade and high yield) only fell -4.3% over the same time period.
In spite of the headline-grabbing rally in stocks over the past year ... government and corporate bonds have actually performed BETTER than stocks in the past 12-months through the end of September.3 Steve: The trouble is, most investors don’t own enough bonds to help stabilize their investment mix. In fact, U.S. investors own FOUR TIMES as much in equities as in fixed-income securities today.4 Sherri: But that’s beginning to change. Mike: It is. Year-to-date though August, bond mutual funds have attracted about $220 billion in net cash inflows from investors, while equity funds added just $15 billion in new cash over the same period.5 That’s a sign some investors are beginning to wake up to rising risks and are prudently diversifying into bonds. I think that’s a smart move. Editor’s Note: Go Here Now to View the Webinar in its Entirety! Steve: And it’s NOT just retirees who can benefit from this approach ... Sherri: That’s an important point Steve. We manage money for individuals and institutions, and that’s exactly what we’ve seen with our clients — which is why we developed a special income strategy several years ago focused on providing regular cash flows. Can you tell us more about it? Steve: It’s our Weiss Diversified Income Builder strategy. This program is designed to generate a higher level of income than you’re likely to receive from any bank CD, money market fund, or even from long-term government bonds ... to help meet your cash flow needs now AND during retirement or to reinvest the cash generated right back into your investment principal. Granted, the strategy is not FDIC insured, which means it does carry a higher level of risk, but risk is relative to your situation. This particular strategy is deemed appropriate at the moderate risk level. Sherri: Tell us how often it pays income. Steve: Both monthly and quarterly. You can choose to receive your income directly — by check, have it deposited right into your bank account, or it can accumulate and be reinvested right back into the Diversified Income Builder program until you need to use it. The choice is yours. Sherri: Can you explain the strategy in detail and give us some ideas you’re using to possibly increase cash flows today? Steve: Sure. The Weiss Diversified Income Builder program is designed to focus on the current cash flow yield provided by the fixed income securities we invest in for the program. Our minimum goal, our benchmark, is to produce 1.5% to 2% above the long-term average yield on a 5-year U.S. Treasury note. Sherri: Can you give us an example, using current yields? Steve: Sure. For instance, the average yield on the 5-year U.S. Treasury note today is about 2.5%, so our goal would be to produce a 4% to 4.5% yield in the Weiss Diversified Income Builder program.6 Keep in mind, this is not a fixed interest rate like a CD. Interest rates can and will fluctuate up and down. But with a diversified mix of fixed income mutual funds, which represent many different types of bonds and varied maturities, we have been able to provide investors with consistently positive current income levels in the past and hope to continue doing so, even in today’s very low interest-rate environment. Mike: How are you actually doing today, Steve? Steve: I’m proud to say we’re doing even better than our income goal.
Mike: That’s more than TWICE as much as the 5-year Treasury yields today. In fact, it’s even higher than the yield on 30-year Treasury bonds. Editor’s Note: Go Here Now to View Steve: That’s right, but it’s important to point out that a 6.5% yield is a moving target — it’s not fixed at this rate like the coupon of an individual bond. The 6.5% indicated yield in this program is a reflection of the specific bond-fund holdings held in Diversified Income Builder at the end of last quarter and this invariably changes over time. Sherri: I think this is a critical distinction for investors to understand: bond yields fluctuate with bond prices. When yields go up, prices go down, and vice a versa. Steve: The bottom line is that you need to pay your bills AND keep up with the rising cost of living. So, while bond prices may fluctuate, it’s also important to focus on the cash flow — or income stream — that you’re receiving. Sherri: True, but I also want to stress that retirees can’t afford to lose their investment principal either. There’s a risk and reward element to every investment that is important to consider. Steve, what amount of risk are we talking about here … to increase income to that level? Steve: For this program, protection of principal is a very high priority, even more important than a higher level of income. If we have to err on the side of less income for the sake of less risk to principal, we do. Sherri: But that’s one of the reasons why we recommend diversifying your fixed-income investments broadly and strategically to minimize risk as much as possible. Can you give an example of different kinds of risk in bonds that investors need to be aware of? Steve: The 5-year Treasury note, for instance, is considered a relatively risk-free investment because your principal is backed by the full faith and credit of Uncle Sam. There’s virtually no credit risk. The likelihood of the issuer — in this case the U.S. government — going belly-up is remote. When it comes to government-issued debt, we all know it’s backed by a printing press. But to get this assurance, you have to sacrifice yield in the process. The 5-year Treasury yields just 2.5% today ... which is not very much. But there’s another risk involved here too, it’s called interest rate risk or the risk of future inflation.
Editor’s Note: Go Here Now to View the Webinar in its Entirety! While inflation may not be a problem right now, if in five years, inflation is higher than 2.4% ... and that’s a very good bet, in my view ... then you may still lose money in this supposedly risk-free Treasury, because you’ve lost purchasing power to the rising cost of living. Mike: That’s a great point Steve, and the chart (above) illustrates the impact of different rates of inflation on the purchasing power of $100,000 over time — it really erodes your money — quickly. It’s NOT easy to get lost purchasing power back, not in a climate of rising inflation. How do you deal with these risks? Steve: We diversify. We buy bond mutual funds that can hold hundreds of bonds from different issuers — reducing credit risk. Plus, we buy bond funds with various maturities — from short term, 2-3 years maturity, to longer-term maturities. This helps reduce inflation or interest rate risk. In a nutshell, taking this approach also gives us more flexibility to shift when market conditions warrant. Sherri: Steve, let’s drill down to specific strategies. With money market rates, CDs and short-term Treasuries yielding practically ZERO today, what moves are you making in Diversified Income Builder right now to help boost yields? Steve: The first step is to start from a global perspective. Some of the best opportunities around are in foreign countries. Look beyond our borders, and you’ll find many countries that are healthier than ours economically, with stronger currencies than our own U.S. dollar, and that have naturally higher interest-rate environments. Sherri: What’s the next step? Steve: Once I have my short-list of countries and regions of the world that offer the best income opportunities, then I want to invest alongside the best bond fund managers in the business. I look for experienced managers backed by great global research capabilities. That’s when I select mutual funds that will diversify our holdings across different parts of the fixed-income universe and the globe to help reduce overall risk. Mike: Many of our viewers make their own investment decisions rather than use an advisor. I’m sure they’re wondering how to differentiate among the many bond funds in all the different areas of the fixed-income universe. After all, there are thousands of bond funds and millions of bonds the world over to choose from today. Steve: Yes, but not all bonds or bond funds are created equal. Different types of bonds have different sensitivities to changes in interest rates and credit conditions. So, for do-it-yourself investors, diversifying into multiple types of bond funds is a smart idea. Diversification can help stabilize the performance of your overall portfolio, yet still offer the chance to earn better overall yields.
Editor’s Note: Go Here Now to View the Webinar in its Entirety! One caveat though: It’s a tricky environment right now, so you can’t just “set it and forget it” when it comes to your bond-fund holdings. I’m managing our portfolios more actively these days. EDITOR’S NOTE: The entire Webinar ran about 45-minutes, to view it now in its entirety, go here. However, in the interest of space, we’ll run the second and concluding portion of the edited transcript in a special edition of Weiss Advice THIS Friday, October 23. In Part II of Earning Higher Income in a Low Yield Market, Steve, Sherri and I talk more about some of the specific holdings Steve is using in Diversified Income Builder to earn higher yields today. Also, how proper diversification among different bond mutual funds ... both domestic and international ... can possibly help you enjoy more stable returns over time. Plus, we’ll discuss how Diversified Income Builder is specifically designed to help protect you — and even potentially BENEFIT from — a falling U.S. dollar! You don’t want to miss it. So be sure to check your inbox TOMORROW, for Part II of this transcript ... OR you can access a replay of the entire Webinar right now. Just turn up your computer speakers, and go here! Good investing!
1 Federal Reserve press release: FOMC statement, 9/23/09 The Weiss Diversified Income Builder program is suitable for investors with a MODERATE risk tolerance. Any comparison to money market funds and CDs is made only in reference to yields and not level of safety. Unlike bank CDs, the Weiss Diversified Income Builder program is not FDIC insured, nor guaranteed and may be higher risk than some money market funds. Forward-Looking Statements: This Webinar contains forward-looking statements regarding intent and belief with regard to the program and the market in general. Viewers are cautioned that such statements are not a guarantee of future performance and actual results may differ materially from those statements. Risk: PAST PERFORMANCE is not indicative of future returns and as with any investment program, it is possible to lose money by investing in the Diversified Income Builder program. There are no guarantees that the program will be able to achieve its stated objectives. Before investing, please read the Firm’s ADV Part II and all program materials for important disclosure information. INTERNATIONAL INVESTING presents certain risks not associated with investing solely in the United States. These include, for instance, risks related to fluctuations in the value of the US dollar relative to the values of other currencies, custody arrangements made for foreign securities, political risks, differences in accounting procedures and the lesser degree of public information required to be provided by non-US companies. Complete Performance:
RETURNS — Returns are based on a composite of actual client accounts. Individual client returns may vary. See program materials for details. Net returns cited include actual management fees, commissions and other similar fees charged on transactions and reinvestment of dividends, income and capital gains. Gross returns cited exclude management fees are net of actual commissions and other similar fees charged on transactions and include dividends, income and capital gains. BENCHMARK — The Barclays Capital Bond Index (formerly Lehman Aggregate Bond Index) is a market-value weighted index of taxable investment-grade, fixed-rate debt issues, including government, corporate, asset-backed and mortgage-backed securities. It assumes reinvestment of dividends and capital gains and excludes management fees, transaction costs and expenses. It is not possible to invest in an index. Index return data source: Bloomberg The Weiss Diversified Income Builder program may invest in securities that are not included in the benchmark index including inverse-index funds. See program materials for more details. Securities: Mention of specific securities is for illustration purposes only and should not be construed by viewers as a specific recommendation to buy or sell any security. Information given regarding these securities was based on information available at the time of this broadcast and actual results may differ materially from those statements. Disclaimers: 1. Weiss Advice is a publication of Weiss Capital Management, an SEC Registered Investment Adviser. Weiss Research is a separate, but affiliated publishing company. Both entities are owned by Weiss Group, LLC. 2. "Weiss Advice" is published for general information and educational purposes only and should not be construed as a specific recommendation to buy or sell any security. Specific recommendations can only be given to advisory clients of Weiss Capital Management, with the benefit of knowing their financial condition and suitability. Receipt of this publication should not be construed as a solicitation to do business outside the jurisdiction for which the Firm is approved. Currently, Weiss Capital Management offers investment advisory services to individuals maintaining legal residency within the United States. For details, please contact the Firm. View Weiss Capital Management's Privacy Policy. To make sure you don't miss our urgent updates, add Weiss Advice to your address book. Just follow these simple steps. |
In a recent issue of Weiss Advice (
Why ultra-low interest rates have persisted for so long now ... and why yields may stay low even longer ...
Sherri: Unfortunately for fixed income investors, yields on short-term savings vehicles, like CDs and money markets, have plunged along with the Fed Funds rate. Do you see any relief in sight for income investors? Can we expect short-term rates to move higher anytime soon?
They were still down overall, but a portfolio that had this mix of bonds AND stocks would have held up much better.
Steve: The average 12-month yield on the investments held in Diversified Income Builder at the end of September is about 6.5% ... that number is based on a forward-looking estimation.
