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Tags: Invest | Income | REIT | stocks | value

Yes, It's Still Fine to Invest for Income

Yes, It's Still Fine to Invest for Income

By    |   Friday, 16 June 2017 12:25 PM EDT

The last shall be first, and the first shall be last. While the Bible might not have been focusing on investing specifically, that’s one area where that phrase turns out true more often than not. Areas of the market that are running hot now will eventually cool. And areas out of favor with the market will eventually come into favor.

Where do we stand as the year closes in on the halfway point? It’s a challenging market. And despite some sharp drops in stocks in the past week, the damage has mostly been limited so far to companies that have already had a good run year-to-date. Tech giants like Apple (AAPL) and Facebook (FB) are still up market-trouncing double-digits for the year. Other big tech names like Tesla Motors (TSLA) and Alphabet (GOOG) aren’t far behind.

In fact, because markets are weighted towards bigger companies to begin with, these happy few band of tech brothers have been responsible for dragging the overall market index higher since the calendar flipped to 2017.

Where does that leave investors today? If they avoided the big tech names, they’re in the dust. They may even be down for the year, given how the market hasn’t been rewarding the bottom 490 names in the S&P 500 Index.

But that still leaves plenty of opportunities. And with the stock market in a late-1990’s echo of the tech boom, the real values in today’s markets are in the tortoise, not the hare. I’m talking about names likely to give you great returns over time thanks to the income they provide, not any fast growth name.

Let’s be clear. Income-producing stocks come in all shapes and sizes. I’m not talking about dividend growth companies like consumer goods firms. Like the big tech names, they’re also trading at a pricy valuation right now. A lot of things have to go right for a company like Procter and Gamble (PG) or Unilever (UN) to continue trading at high valuations. Those companies will likely trade at lower prices in a steeper market selloff. Until then, however, they’re too expensive to pick up right now.

What makes the most sense? For starters, real estate. The sector as a whole has traded flat since the start of the year. That’s a huge underperformance to the broad market. We all know why. The Federal Reserve has continued to gradually raise interest rates. But they’re moving at a very slow pace, not quick enough to throw the entire market out of whack. Many parts of the country are still recording high home prices, and mortgage rates remain low enough to still entice buyers.

What’s more, I don’t expect the Fed to get back anywhere near to normal before the economy turns. They’re moving too slowly. And if they were to raise interest rates too much, the government would start to have more trouble paying for the interest on its debt.

Indeed, one of the most bizarre outcomes of the 2008 financial crisis was that the government’s interest rate payments went down, despite years of trillion-dollar deficits. That’s how much interest rates were cut. With that extra debt in the system, interest rates have a ceiling, whether officially stated or not. The Fed is more likely to go back to zero percent rates (or even try to go into negative rate territory), rather than let short-term rates get back over 5 percent.

That means real estate is in a better position than it looks, especially for the patient crowd. As a high-yielding space, patience is definitely a virtue here. But investing in real estate investment trusts (REITs) specifically looks like a solid bargain here. Why? Because REITs are required to pay out 90% of their earnings as income. That can provide some solid stability for a portfolio, and the yields are much higher than traditional stocks.

If you think about stocks in terms of average, long-term returns, investors can expect around 8 percent per year. The market is agnostic about how those returns are earned. But if you’re holding REITs yielding 5 percent, you don’t need a big move to hit that long-term average. And with the fear in the real estate space right now, it won’t take much for REITs to start showing some capital gains, not just return of income.

REITs aren’t the only enticing income play right now. Another area that looks compelling—and has also been sensitive to interest-rate changes—is in the business development company (BDC) space. These companies, who lend out money or take equity stakes in smaller, faster growing companies, essentially operate like leveraged banks. And, like REITs, they’re structured to pay out 90% of their income to shareholders. That’s where the interest rates fears have started to play out. Higher rates could mean a lower spread on investment income going forward.

Yet many BDC’s use floating rate terms, and could end up doing just as well, if not better, if interest rates rise. What’s more, thanks to these interest rate fears, many BDC’s are trading below their book value. Essentially, if they liquidated their book of business in an orderly manner, they’d get 100 cents on the dollar, rather than the 80 or 90 that they’re going for on the open market. That discount to book value also shows up in the dividend yield, which at some BDCs reaches into the double-digits.

Again, this is an area with some short-term fear, but a solid long-term operational history. Despite fears of leverage used by BDC’s, the sector weathered the financial crisis well. While some loans could be in danger, the discount to book value seems excessive at the moment.

At the end of the day, it’s safe to buy income. Likewise, it seems risky to chase tech stocks higher. To everything there is a season; and it seems investors are reaping mid-year profits in high-flying tech stocks. It’s time to rotate to value, and some of the best values out there right now are in high-yielding areas like REITs and BDCs.

Andrew Packer is a Senior Financial Editor with Newsmax Media. He currently writes the Insider Hotline investment advisory, serves as investment director for the Financial Braintrust, and writes the monthly newsletter Crisis Point Investor.

© 2023 Newsmax Finance. All rights reserved.

To everything there is a season; and it seems investors are reaping mid-year profits in high-flying tech stocks.
Invest, Income, REIT, stocks, value
Friday, 16 June 2017 12:25 PM
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