The bull market recently turned nine years old, and, as with most anniversaries, it provided a chance for advisers to reflect on a stock market in which the S&P 500 quadrupled and then some, the Dow Jones industrial average rose 280%, and the Nasdaq Composite rose 486%.
But how did investors seeking income in the form of dividends perform?
"Income investing has been especially challenging through the bull market, due in large measure to the historic decline in interest rates coming through and out of the great recession," says Christopher Hopkins, CFA, a vice president and portfolio manager for Barnett & Co. in Chattanooga. "This is in part due to central bank actions to flood the markets with liquidity but is also a natural consequence of the increasing wealth generated in the emerging markets."
Much of this wealth, Hopkins says, has found its way into developed economy sovereign debt such as U.S. Treasuries, German bunds, and the like. "This has reinforced central bank policy and is complicating their efforts to normalize rates," he says.
Given that backdrop, investors seeking income have chased yield in instruments outside the bond market.
In addition to dividend stocks, yield-hungry investors have plowed into real estate investment trusts (REITs), master limited partnerships (MLPs), business development companies (BDCs), and the like, says Hopkins. "Far too often, the high distribution rates in these securities proved unsustainable, leading to dividend cuts and capital losses," he says. "This is especially true in energy shares, as collapsing oil prices forced most MLPs to slash distributions or in some cases go belly up."
Meanwhile, interest in preferred stocks, says Hopkins, has increased just as their issue is declining or issues are being redeemed. "Furthermore, given their bond-line characteristics, latecomers are learning the hard way how preferred values decline in a rising rate environment," he says.
Bottom line: "This has been perhaps the biggest challenge for income-oriented investors in the equity space," says Hopkins who also pens a column for the Times Free Press.
The good news, however, is that many of these high-yield sectors are oversold and may represent a selective opportunity -- MLPs and REITs in particular, says Hopkins.
What are some names that fit the bill?
In MLPs, Hopkins says midstream stocks are settling down into a groove after the crash and generally most stable for retail investors. Names to consider according to Hopkins include Enterprise Products Partners (EPD) , Spectra Energy Partners (SEP) , and stable players with decent yields and good coverage.
For a more speculative play, Hopkins suggests looking at Hi-Crush Partners (HCLP) . "Sand provider got clobbered but now looks like a value play with six-plus dividend and growth ahead," he says.
As for REITs, Hopkins says tax reform lends modest support.
He's avoiding pure-play retail but is looking at Ventas (VTR) , W.P. Carey (WPC) and Medical Properties Trust (MPW) for solid distributions. "Interesting thing about REITs is that they always decline when rates start to rise but then outperform S&P over the cycle since they can raise rents and generally keep up," says Hopkins.
Will Retirees Turn to Bonds?
Looking back over the past nine years, Sam Huszco, a chartered financial analyst charterholder and founder of SGH Wealth Management, notes the following: "While historically bonds have usually gotten investors a higher yield over stock dividends, over the past nine years or so this has been a much tighter yield race. This may have created more demand for dividend-paying stocks as an alternative to the unusually low interest earning bonds over this timeframe."
Going forward, Huszco thinks it's likely that, with higher earnings due to the corporate tax rate reduction, we could see some companies increasing their dividends per share over the coming years.
"But with interest rates increasing, bond yields will be increasing as well and probably at a faster pace," he says. "A switch over from dividend-paying stocks to bonds could potentially mean a higher income and carry less downside risk as bonds usually offer more protection in a downturn."
Also worth noting: The retirees concerned with a market downturn that make this exchange could reduce the demand for dividend-paying stocks over the coming years, says Huszco. "It will really depend on the risk that the investor wants to take with their principal as bond yields become more competitive," he says.
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