ETFs have filled gaps in many investor portfolios, thanks to the broad offerings across so many sectors and assets. For the investor who seeks broad market allocation with tons of diversification, and doesn’t want to get bogged down in choosing individual securities, they are lifesavers.
That’s not to ignore the actively-managed mutual fund, by the way. They have their place, and there are loads of quality market-beating managers.
ETFs, though, really simplify the process in many ways. In other ways, they complicate matters. You have to really scour the literature of a given ETF to see if it’s really the best for a category.
Today, I’m looking at high-yield ETFs. High-yield ETFs are not as ubiquitous as most other sector ETFs. Each ETF family has its own way of determining what is considered high yield. There is no way to screen for it, so I’ve selected from among many types of high-yield ETFs.
Best High-Yield ETFs: UBS AG Exchange Traded Access Securities (E TRACS) (BDCS)
For aggressive investors, I suggest UBS AG Exchange Traded Access Securities (E TRACS) (BDCS).
A Business Development Company (BDC) raises money in the equity markets, and sometimes the debt markets. It then lends that money out to fast-growing middle-market companies, in exchange for interest payments running from 10-15% annually, and the ability to take equity in the company.
Because BDCs are required to pay out 90% of their net income as a dividend, they end up being high-yield plays and thus a basket of them becomes a high-yield ETF. This best ETF yields 8.38%.
Now, this ETF is down 11.3% year to date, so you may wonder why I consider it a best ETF for aggressive investors. That’s because its three-year return in 39%, along with some 27% paid out in dividends. BDCs have had it tough this year as people fear rising interest rates will impact their margins.
I think they’ll do better next year.
Best High-Yield ETFs: Market Vectors High Yield Municipal ETF (HYD)
If you’re a more conservative investor looking for a high-yield ETF, I suggest you stay with government investments like Market Vectors High Yield Municipal ETF (HYD)
Municipal bonds had a scare awhile back, when Detroit went bankrupt. A lot of municipalities frankly can’t be trusted with their spending, but it’s so rare for one to go under. This particular high yield ETF, which yields 5%, has 764 holdings. It’s so unlikely that any one — or even 10 — municipal blow-ups will impact the entire basket.
I would normally suggest conservative investors not go with short-term bond ETFs. They just don’t yield enough, so in this case, when I refer to “conservative,” I really do mean investors who are really only seeking capital preservation as opposed to earning any real return on their money.
The top 10 holdings account for only 9% of the assets. They range across a huge swath of municipalities, yielding from 5% to 8%.
Best High Yield ETFs: iShares US Preferred Stock (PFF)
The best ETF for all-around high yield seekers may be iShares U.S. Preferred Stock (PFF). It is a broadly diversified ETF of preferred stocks, with a 0.47% expense ratio. PFF is up 11.18% year to date and yields 6.95%
I am a big fan of preferred stock. Issues have very little volatility, they trade more like bonds than stocks, they tend to be stable in their dividend payments, and they tend to be issued by companies that are extraordinarily solvent.
PFF has 327 holdings. The top 10 account for 14% of the total asset base, and almost all are financial holdings. That’s the other thing about preferred stock. It tends to be issued by REITs, financial service companies, insurance companies and a few utilities.
I normally wouldn’t like such concentrated sector exposure, but the truth is the financial sector is doing just fine and will continue to do so.
Lawrence Meyers is long PFF.