Income Ideas for the Yield-Starved

Ah, to be a rentier! Gone are the days when Vladimir Lenin could rail against these “parasitic” capitalists for “clipping coupons” from their bonds while doing no work at all. Nowadays, with 10-year Treasury notes yielding a mere 2.5 percent and junk bonds barely 5 percent, investors who want a decent stream of income have to scramble.

“All yields for almost every kind of security are at historical lows, for the most part,” says Ken Taubes, who oversees some $69 billion as chief investment officer of Pioneer Investments.

What are the yield-starved to do? Here are five income investments to consider — and five to avoid.

Consider: Municipal Bonds

The average A-rated 20-year municipal bond yields 3.4 percent. That’s not great, but compared to what you get from 30-year Treasury bonds it’s golden if you’re wealthy. For investors in the highest, 39.6 percent federal tax bracket, that 3.7 percent has a taxable-equivalent yield of 5.6 percent. If you’re worried about credit quality, munis are a good option, because the default rate on them has been only 0.012 percent over the last 43 years. The Market Vectors Long Municipal Index (MLN) and the Market Vectors High Yield Municipal (HYD) ETFs yield 3.8 percent and 5.2 percent.

Consider: Emerging Market Bonds

Economic instability in BRIC nations — Brazil, Russia, India and China — last year caused a significant downturn in emerging markets. “Emerging market corporate debt offers the best value in the bond market now,” says Nathan Rowader, manager of the Forward Income Builder Fund (AIAIX), which can invest in 13 different asset classes. “You’re getting about an 8 percent yield.” Pioneer’s Taubes also favors the asset class, investing in Indian and Indonesian government debt yielding over 8 percent. Credit quality is usually better than junk bonds in the U.S., which yield less.

Consider: Closed-End Funds

Let’s say you owned a $10 bond that paid 50 cents of income a year — a 5 percent yield. Now let’s say you could buy the same bond for $8 instead of $10. That 50 cents payout now produces a 6.3 percent yield. That’s effectively what happens when you buy a discounted closed-end bond fund. Share prices of these funds move independently of their portfolio values, sometimes trading at discounts that amplify their yields. The First Trust/Aberdeen Emerging Opportunity Fund (FEO) currently has a 12 percent discount, which increases its 6.6 percent portfolio yield to 7.5 percent. You can find discounted funds at www.cefconnect.com.

Consider: Corporate Bond Trust Certificates

While most corporate bonds are overpriced, there are attractively priced ones sold directly to retail investors that trade like stocks. They’re called corporate bond trust certificates. For instance, shares of Main Street Capital’s bonds trade under the symbol MSCA and yield 6.1 percent at their $25 issue price. Although such bonds are usually unrated because they are from smaller issuers, they often have high credit qualities, says manager Richard Barone of the Ancora Income Fund (AAIIX). That’s why 35 percent of his fund is in them. Institutions are oblivious to these small fry, so they have higher yields. Investigate them at quantumonline.com.

Consider: Preferred Stock

Many investors avoid preferred stocks because the traditional ones have very long maturities. The longer the bond’s maturity, the more sensitive it is to rising interest rates. But Mark Freeman, manager of the $1.9 billion Westwood Income Opportunity Fund (WHGIX), has 12 percent of his portfolio in hybrid and floating-rate preferreds that avoid this problem. A hybrid preferred he likes from Wells Fargo (WFC-Q) has a fixed rate of 5.85 percent til 2023, then pays the prevailing interest rate plus 3 percentage points. A preferred issued by U.S. Bancorp (USB-H) has a floating rate with a guaranteed floor of 3.5 percent. You can find such preferred stocks at quantumonline.com.

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