Continued desire for yield in portfolio
While I wouldn’t chase classic yield plays like utilities or consumer staples, other parts of the yield space look more interesting. For example, preferred stock, as measured by the S&P US Preferred Stock Index, appears reasonably valued, and offers an opportunity to seek yield. To the extent that growth remains sluggish, I believe that yield is likely to remain a valuable commodity.
Market Realist – Where you can find yield today
Preferred stocks have typically seen the highest yields in the investment-grade universe, which makes them an attractive alternative to other high yielding securities. Also, as preferred stocks pay a fixed dividend, they do not fluctuate the way common stocks do when the market changes. Preferred stocks give a much higher yield compared to common stocks. The S&P 500 Index has a dividend yield of 2.1% while preferred shares have a coupon rate of ~5.5%.
Also, preferred shares give you diversification benefits. The graph above shows the correlations among the S&P 500 Index (IVV)(SPY), preferred stocks as tracked by the iShares US Preferred Stocks ETF (PFF), long-dated Treasuries (TLT), and high yield bonds (JNK), considering weekly returns in the past five years.
The correlation between the S&P 500 and long-dated bonds over the last five years has been -0.56, meaning the two tend to move in opposite directions.
The correlation between preferred stocks and the S&P 500 over the last five years has been +0.57. The correlation between preferred stocks and long-dated Treasuries in the same period was -0.13. In other words, preferred stocks (PGX) move differently compared to stocks while having a slightly inverse relationship with long-dated Treasuries.
A global slowdown is likely to keep the quest for yield challenging. Preferred stocks seem to offer value given their high dividends and the fact that they are relatively safe.
Read The Case for Preferred Stocks in This Low Yield Environment for more on preferred shares.