As the Federal Reserve’s zero-interest-rate policy lumbers into its fifth year, retirees are growing desperate. If you need investment income to meet living expenses, bank deposits just don’t cut the mustard. Month after month, you’ll find yourself drawing down your balances, until — at some point — there will be nothing left.
Fortunately, you don’t have to consign yourself to eating dog biscuits in old age. While it’s true that every asset other than T-bills or bank accounts carries an element of risk to your principal, you can protect yourself by spreading your bets among a variety of income sources.
Dividend-rich stocks like Royal Dutch Shell (NYSE:RDS.B), Southern Co. (NYSE:SO) and Merck (NYSE:MRK) are one avenue. If you’re a retiree in your 50s or 60s, or an older person with a large net worth, you might reasonably allocate as much as half your portfolio to high-yielding equities.
However, you shouldn’t stop there. With a smidgen of creativity, you can wring attractive yields out of certain types of corporate debt. Let’s consider some of the more clever ways you can escape the zero-interest-rate policy trap.
My Favorite Strategy for Closed-End Funds
A favorite tactic of mine is to buy new closed-end funds about six to eight weeks after they begin trading on the NYSE. Often, these funds quickly fall to a discount to net asset value. In the case of bond funds, buying them at a discount allows you to capture a higher yield than you would have earned if you had purchased the fund at its initial offering price.
As it happens, a flurry of closed-end bond funds have come to market lately, including several with investment strategies that make a lot of sense in today’s climate. One is Babson Capital Global Short Duration High-Yield Fund (NYSE:BGH). We all know that high-yield (“junk”) bonds are more liable to default than so-called investment-grade paper. By concentrating on shorter maturities, though — with an average portfolio maturity of five years — BGH tempers that risk. The fund also yields a mouthwatering 8.1% in monthly distributions.
A second newly issued fund that I find appealing is Ares Dynamic Credit Allocation Fund (NYSE:ARDC). Launched in late November, ARDC owns a mix of senior (secured) bank loans, high-yield corporate bonds and investment-grade collateralized loan obligations.
The “dynamic” in the title indicates that management plans to shift the asset mix as market conditions warrant. Thus, once it appears interest rates are about to rise, I expect that ARDC will boost its weighting in bank loans, which carry a floating interest coupon.
Because Ares is targeting slightly higher-quality debt on average than Babson, ARDC yields a bit less (7.2%). Still, in a world where T-bills pay essentially nothing, seven-and-change is nothing to scoff at in monthly payout.
Warning: These funds employ leverage (borrowed money) in an effort to enhance returns. In a falling market, leverage can also aggravate a decline in the fund’s share price. For safety, I suggest limiting any single leveraged fund to no more than 2% of your portfolio. All leveraged funds together should amount to no more than 10% of your portfolio.
Richard Band’s Profitable Investing advisory service helps retirement savers outperform the market without losing a minute of sleep along the way. His straightforward style and low-risk “value” approach has won seven “Best Financial Advisory” awards from the Newsletter and Electronic Publishers Foundation.