Go Ahead, Reach for Yield
The best bets are in arcane areas such as commercial mortgage-backed securities, nonbank business lending and structured credit.
With bank rates and bond yields collapsing again, investors are embracing unconventional income securities priced to yield 6%, 8% or even 10%. Yes, spreads between Treasury yields and the yields you get from many such investments—including high-paying partnerships, closed-end funds, mortgage real estate investment trusts, specialty lenders and business holding companies—look dangerously wide, oftentimes six or eight percentage points. In theory, such a big gap implies that a recession is in the offing and will send investors running to higher-quality assets, or even cash. High-yield investments of all kinds got slammed in 2008.
But I often dissent from the orthodox view. I believe that 2019's sinking Treasury yields, which magnify the spreads on everything else, are not a sign of economic peril. Rather, Treasury rates are puny due to the timid Federal Reserve and the $15 trillion of foreign government debt that carries negative yields. U.S. bonds have transitioned from being reserves for domestic banks and insurers and a haven for everyday savers to being the world's lockbox, a global repository where anyone can hold almighty U.S. dollars and earn a positive yield.
New ways to measure risk. Because Treasury debt is caught in these disruptive, rule-breaking financial times, investment pros have become open to other ways of weighing investments besides the yield spread over T-bonds. Creditworthiness and business prospects take top billing. Those can be tough for you and me to pin down, and ratings agencies can get them wrong—but the new approach produces trading and investment opportunities. "Just because something yields 8% doesn't mean it is high risk," says Christopher Zook, CEO of CAZ Investments.
Sign up for Kiplinger’s Free E-Newsletters
Profit and prosper with the best of expert advice on investing, taxes, retirement, personal finance and more - straight to your e-mail.
Profit and prosper with the best of expert advice - straight to your e-mail.
Zook says that sound borrowers are paying seven percentage points above three-month cash rates to short-term lenders and private loan pools, because big banks are de-emphasizing traditional handshake corporate lending.
How can ordinary investors get in on these deals? The best ideas are in arcane areas such as commercial mortgage-backed securities, nonbank business lending and "structured credit," which packages loans, mortgages and receivables into interest-bearing securities backed by those assets. The point is that these borrowers aren't in trouble. They voluntarily pay up to borrow, and then the market's recession fears plump up yields by another full point or two. Before investing, I do insist that you scour disclosures to look mainly for secured credit and avoid dealings in oil and gas and emerging markets. A multi-industry, consumer-focused, U.S.-centric strategy is best. The following are essentially investment or holding companies, with portfolios of loans or businesses. But their stocks trade like any other.
Apollo Investment (symbol AINV, $16, yield 11.2%) shares have returned 41% this year, although they still trade at a discount to the per-share value of Apollo's portfolio of debt securities. (Prices and other data are as of September 30.) Apollo's loans and airplane leases are mostly secured, and almost all are floating-rate. Its rival lender Ares Capital (ARCC, $19, 8.6%) has a 28% return so far in 2019 and has virtually eliminated subordinated debt (which ranks behind other debt in the event of default) from its portfolio because Ares can still collect an overall 10.5% on better-quality assets. The shares trade a tad above the $17.27 per-share net asset value of Ares' underlying holdings—but that's acceptable. Compass Diversified Holdings (CODI, $20, 7.3%) owns businesses rather than lending to them and is up 69% for the year to date. Yet its yield remains robust, and it trades close to its net asset value.
In a future column, I'll talk about debt pools of much shorter duration that yield about 4% and are suitable substitutes for ultra-short debt funds or cash.
Get Kiplinger Today newsletter — free
Profit and prosper with the best of Kiplinger's advice on investing, taxes, retirement, personal finance and much more. Delivered daily. Enter your email in the box and click Sign Me Up.
-
2025 Tax Reform: Will the SALT Deduction Cap Be Repealed?
Tax Deductions Some lawmakers say it’s time to end the $10,000 cap on state and local tax deductions.
By Kelley R. Taylor Published
-
Affordability Crisis: Florida Votes to Increase Property Tax Break
State Tax Property taxes have skyrocketed nearly 60% within the last five years in Florida, and its constituents are finally doing something about it.
By Gabriella Cruz-Martínez Published
-
Why Investors Needn't Worry About U.S. Credit Downgrade
Fitch Ratings The United States saw its credit rating downgraded for just the second time in history, but experts aren't worried about the long-term damage to stocks.
By Dan Burrows Published
-
Income-Investing Picks for a Recession
Investing for Income Some consequences of an economic downturn work to the benefit of fixed-income investors. Here are three fund ideas that fit the bill.
By Jeffrey R. Kosnett Published
-
Dogs of the Dow Are 2022's Best in Show
dividend stocks Some of the best investments for income investors in a volatile 2022 have come from the Dogs of the Dow.
By Jeffrey R. Kosnett Published
-
Bond Values in a Volatile Market
Investing for Income While the market's instability may not be over just yet, the latter half of the year should be less daunting – and possibly more rewarding – for investors.
By Jeffrey R. Kosnett Published
-
Should You Buy Bonds Now? What To Consider
bonds The fixed-income market has been turned on its head in recent years, but there are still opportunities for those looking to buy bonds again.
By James K. Glassman Last updated
-
Dividend Dates: A Beginner's Guide
dividend stocks Everything you need to know about ex-dividend dates, dividend announcements and other parts of the dividend calendar.
By Charles Lewis Sizemore, CFA Published
-
Income Investors Should Look Beyond the Ukraine Invasion
stocks Unless you invested in a Russian-themed ETF or an emerging markets index fund, the destruction of Moscow's capital markets is a distraction for investors.
By Jeffrey R. Kosnett Published
-
Consider Short-Term Bond Funds
Investing for Income These funds own the kind of stuff that benefits from a healthy economy and can withstand the Fed's rate hikes.
By Jeffrey R. Kosnett Published