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The Best ETFs for Yield-Starved Investors

The following first appeared on InvestorPlace.com as The 10 Best ETFs to Buy for Yield-Starved Investors 

Call it the tyranny of choice, but investors looking for income via dividend exchange-traded funds have almost too many options to choose from these days. A simple screen returns nearly 200 dividend-focused ETFs. But in a list that long, how do go about finding the best ETFs?

Do you simply narrow the list to high-yield ETFs? Or do you try to find a balance between current yield and the potential for growth? And what about international or sector diversification?

It’s hard to believe that the Federal Reserve has been raising rates for nearly two years now. After all, savings and money market accounts still yield next to nothing, and even the 10-year Treasury barely yields 2.4%. It’s still a rotten market out there for yield-hungry investors … which explains why dividend ETFs keep sprouting up like weeds.

Today, we’re going to narrow the list down to 10 of the best ETFs for investors looking for income. This list will include both high-yield ETFs and dividend-growth ETFs, as well as targeted sector and international plays. Diversification is important here, as high-yield ETFs can react very differently than dividend-growth ETFs to changes in bond yields or to Fed policy.

With a new Fed Chairman taking office early next year, there is a little more uncertainty than usual, and we want to be prepared.

So, with no further ado, here are 10 of the best ETFs for investors looking for income.

I’ll start with the granddaddy of dividend ETFs, theiShares Select Dividend ETF (DVY). Dividend investing really came back into style following the bursting of the tech bubble and the 2000-2002 bear market, and the iShares fund was the first ETF to jump on that trend. DVY started trading in late 2003.

DVY tracks the Dow Jones U.S. Select Dividend Index, which is composed of 100 of the highest-yielding stocks in the Dow Jones U.S. Index, excluding REITs. In order to make the cut, a stock has to have had dividend growth over the past five years and must have an average dividend coverage ratio of at least 167% over the past five years. The stocks should also have positive earnings over the past 12 months and should have a market cap of at least $1 billion with an average daily trading volume of at least 200,000 shares. The goal is to limit the selection to high-quality companies that are unlikely to slash their dividends any time soon.

DVY sports a current dividend yield of 3%. That might not be exceptionally high, but its more than 50% higher than the S&P 500 these days.

To read the rest of the article, please see The 10 Best ETFs to Buy for Yield-Starved Investors 

Disclaimer: This material is provided for informational purposes only, as of the date hereof, and is subject to change without notice. This material may not be suitable for all investors and is not intended to be an offer, or the solicitation of any offer, to buy or sell any securities nor is it intended to be investment advice. You should speak to a financial advisor before attempting to implement any of the strategies discussed in this material. There is risk in any investment in traded securities, and all investment strategies discussed in this material have the possibility of loss. Past performance is no guarantee of future results. The author of the material or a related party will often have an interest in the securities discussed. Please see Full Disclaimer for a full disclaimer.

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5 Dividend ETFs, 5 Different Strategies

ETFs

 

InvestorPlace recently did a special report on ETFs: The 10 Best ETFs on the Planet

Here’s an excerpt from my contribution:

It’s a strange time to be an income investor. Most government bonds in the developed world actually sport negative yields. And even those in positive territory — like U.S. Treasuries — don’t yield enough to make them worth considering.

But more fundamentally, bonds — even in a normal rate environment — aren’t really your best option as a long-term income vehicle.

Bonds are tax-inefficient, as all of your income returns are taxed as current income at your marginal tax rate. And unless you’re buying TIPS, there isn’t an inflation adjustment. Your income from the investment doesn’t grow, whether you own it for 10 months or 10 years.

A better option for long-term investors would be a good portfolio of dividend stocks. Yes, stock dividends are less secure than bond interest. The bondholders always get paid first, and a company can cut its dividend at the whim of the board of directors if cash is a little tight. But you can mitigate this risk by diversifying across sectors and by keeping your exposure to any single stock modest.

Dividends are generally taxed at a more favorable rate than bond interest, plus — and this is the biggest selling point — healthy companies tend to raise their dividends over time. This keeps your income stream a step ahead of inflation.

Of course, the easiest way to get exposure to a diversified portfolio of dividend stocks is to buy a dividend ETF or a handful of dividend ETFs. Today, I’m going to give you five solid names to consider.

All have a slightly different approach to dividend investing, so buying a basket of these dividend ETFs is a smart move.

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To read the full article, see Dividend ETFs: The 5 Best Ways to Collect Income

Disclaimer: This material is provided for informational purposes only, as of the date hereof, and is subject to change without notice. This material may not be suitable for all investors and is not intended to be an offer, or the solicitation of any offer, to buy or sell any securities nor is it intended to be investment advice. You should speak to a financial advisor before attempting to implement any of the strategies discussed in this material. There is risk in any investment in traded securities, and all investment strategies discussed in this material have the possibility of loss. Past performance is no guarantee of future results. The author of the material or a related party will often have an interest in the securities discussed. Please see Full Disclaimer for a full disclaimer.

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Review: Quantitative Value

Wesley Gray, manager of the ValueShares US Quantitative Value ETF (QVAL), may very well be the most interesting quant you’ll ever meet. Granted, the word “quant” brings to mind an old man in a white lab coat stooped over reams of data, but hear me out.

Before getting his PhD in finance from the University of Chicago, Gray did four years of service as an active-duty U.S. Marine Corps ground intelligence officer in Iraq and other posts throughout Asia. Quantitative Value isn’t even his first book. That distinction goes to Embedded: A Marine Corps Adviser Inside the Iraqi Army.

It’s hard to imagine the average fund manager crawling through the muck and gathering intelligence in Iraqi Arabic. But that is Dr. Gray, and his work is far from average. Quantitative Value, co-written by Gray and Tobias Carlisle, is a solid piece of research that combines the successful value investing framework of Benjamin Graham and Warren Buffett with the analytical rigor seen in Jim O’Shaughnessy’s What Works on Wall Street and Joel Greenblatt’s The Little Book that Beats the Market. In fact, Gray and Carlisle write extensively about Greenblatt’s “Magic Formula” and much of the book is an attempt to build the proverbial better mousetrap.

We’ll take a look at some of Gray and Carlisle’s methods and then see how they perform in the real world by tracking the returns of the Quantitative Value ETF.

The Quantitative Value screening process for stocks resembles a funnel:

Step 1: Avoid Stocks That Can Cause a Permanent Loss of Capital

This is a more elegant version of Warren Buffett’s first rule of investing: Don’t lose money. In first screening for risky stocks, Gray and Carlisle uses some of the same metrics used by short seller John Del Vecchio to identify short candidates, such as days sales outstanding. They also give special attention to accrual accounting in the hopes of weeding out earnings manipulators and run additional screens for probability of financial distress. By removing the riskiest stocks from the pool at the beginning, Gray and Carlisle are a lot less likely to get sucked into a value trap.

Step 2: Find the Cheapest Stocks

Gray and Carlisle do extensive back testing on virtually every valuation metric under the sun, including industry standards such as price/earnings (“P/E”), price/sales (“P/S”) and price/book value (“P/B”). In the end, they opt to use the same valuation metric as Greenblatt in his Magic Formula: the Earnings Yield, defined here as earnings before interest and taxes (“EBIT”) divided by enterprise value. For those unfamiliar with the term, “enterprise value” is defined here as market cap (including preferred stock) + value of net debt, or what you might think of as the acquisition price of the company.

Gray and Carlisle find that of all the assorted valuation metrics, the Earnings Yield yields the best results.

Step 3: Find Highest-Quality Stocks

This is another nod to both Buffett and Greenblatt. Buffett has repeated often that it is better to buy a wonderful business at a fair price than a fair business at a wonderful price, and Greenblatt tried to capture this mathematically by screening for companies that generated high returns on capital (“ROC”). Gray and Carlisle take it a step further by using an 8-year ROC figure.

And they don’t stop there. Gray and Carlisle run additional screens for profitability and combine the metrics into a Franchise Power score. And taking it yet another step, they combine Franchise Power with Financial Strength to form a composite Quality score.

Again, the objective here is to capture mathematically what makes intuitive sense: That companies with wide competitive moats, strong brands and strong balance sheets make superior long-term investments.

So, how does the Quantitative Value model actually perform?

In back-tested returns, it crushed the market. From 1974 to 2011, Quantitative Value generated compounded annual returns of 17.68% to the S&P 500’s 10.46%.

Of course, we should always take back-tested returns with a large grain of salt. For a better comparison, let’s see how the Quantitative Value ETF (QVAL) has performed in the wild.

We don’t have a lot of data to work with, as QVAL only started trading in late October 2014. But over its short life, QVAL is modestly beating the S&P 500’s price returns, 9.96% vs. 9.15%. As recently as April, it was beating the S&P 500 by a cumulative 4%.

Looking at the returns of a substantially-similar managed account program managed by Gray’s firm, the “real world” results look solid. From November 2012 to May 2015, the Quantitative Value strategy generated compoud annual returns of 21.1% vs. the 18.3% return of the S&P 500. The Quantitative Value strategy was modestly more volatile (beta of 1.2) and had slightly larger maxmimum drawdowns (-6.0% vs. -4.4%). But this is exactly what you would expect from a concentrated portfolio.

I look forward to seeing how QVAL performs over time, and I congratulate Gray and Carlisle on a book well written.

Note: When referring to the book, “Quantitative Value” is italicized. When referring to the ETF or to the broader strategy, it is not.

Charles Lewis Sizemore, CFA, is chief investment officer of the investment firm Sizemore Capital Management and the author of the Sizemore Insights blog.

Disclaimer: This material is provided for informational purposes only, as of the date hereof, and is subject to change without notice. This material may not be suitable for all investors and is not intended to be an offer, or the solicitation of any offer, to buy or sell any securities nor is it intended to be investment advice. You should speak to a financial advisor before attempting to implement any of the strategies discussed in this material. There is risk in any investment in traded securities, and all investment strategies discussed in this material have the possibility of loss. Past performance is no guarantee of future results. The author of the material or a related party will often have an interest in the securities discussed. Please see Full Disclaimer for a full disclaimer.

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Japan Credit Rating Downgraded By Fitch? Thank you, Captain Obvious

In an acknowledgement of the glaringly obvious, Fitch downgraded Japan’s credit rating by a notch on Monday, citing Japan’s ballooning pubic debt.

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My only question is this: What took them so long?

Fitch now rates Japanese debt as an A, which is five full notches below the top AAA rating…and just a few notches short of actual non-investment-grade junk status.

The straw that seems to have broken the camel’s back for Fitch was the delay by Japan in raising its consumption tax from 8% to 10%.

Seriously? That’s where they decide to draw the line?

Japan was a solid credit before, but now, because they delayed raising taxes by two percent, their commitment to fiscal discipline is being questioned?

You might detect a little sarcasm here, but Japan’s fiscal position is no laughing matter. Japan has dug itself into a hole from which it cannot realistically hope to dig itself out. Japan won’t “default” on its debts, as they are denominated in yen and Japan can essentially print the yen it needs to pay its existing creditors. That is pretty much what is happening today, as the Bank of Japan is the buyer of substantially all new bonds being issued by the Japanese treasury.

But while outright “default” may not happen, something every bit as destructive will. Eventually, the market will turn on the yen, and the controlled decline of recent years will turn into a collapse. Sure, Japan will pay its debts. But it will be in currency so depreciated it won’t really matter.

Let’s take a good, hard look at Japan. By Fitch estimates, Japan’s sovereign debts will rise to fully 244% of GDP by year end. Whether they raise consumption tax to 10% or 110%, it’s hard to see much materially changing on the indebtedness front. Not even Greece—yes, GREECE—has a debt burden that high. At last count, Greek sovereign debt stood at about 177% of GDP.

Americans fret that their government has a spending problem…and it does. But U.S. federal debt accounts for just a little over 100% of GDP. Even during World War II, our debts only amounted to about 120% of GDP. That means today, after decades of peace, Japan’s debts are more than double the levels of the United States during the peak of the biggest war in world history.

What’s more, Japan is adding to those debts every year through chronic budget deficits. In 2015, Japan’s tax intake is expected to cover just 57% of the government budget, meaning that Japan borrows 43 cents of every dollar it spends.  Its budget deficit is expected to be over 6% of GDP this year.

Japan 10-Year Bond Yield

Japan 10-Year Bond Yield

Bond yields across the yield curve are close to zero in Japan; the market yield today on 10-year Japanese bonds is just 0.3%. And even at that rock-bottom yield, about 16% of Japan’s annual budget is interest on its existing debts. If Japan’s yields rose to anything close to the developed-world average—or to anything close to a level that would be commensurate with currency risk—interest payments alone would completely overwhelm the Japanese budget.

All of this sounds bad. But with diligent cost cutting and a commitment to fiscal discipline, Japan can reduce its debt load to something a little more manageable, right?

Japan_GDP

Let’s just say I doubt it. If Japan were a fast-growing emerging market with a youthful population, I would say that, at least theoretically, Japan could grow its way out of its debt problem. But that is simply not the case here. Japan’s GDP hasn’t grown at all, even in nominal terms, in over 20 years (see chart above). Even if Abenomics were moderately successful in reigniting Japan’s economy (and thus far its impact has been mixed at best), Japan’s history over the past two decades should teach us to have realistic expectations.

But the biggest reason that Japan is doomed is the cold, hard math of demographics. At the risk of oversimplifying, there won’t be enough Japanese taxpayers alive a few decades from now to pay the bills. Japan is already the oldest country in the world, with nearly a quarter of the population over the age of 65. By the year 2060, Japan’s population of 127 million people will have shrunk by more than 30%. And an almost unfathomable 40% of the population will be 65 or older.

So, is there a play here?

Maybe. To start, I’d avoid buying shares of Japanese stocks, such as via the iShares MSCI Japan ETF (EWJ), for anything other than short-term trades. Longer term, Japan is looking at total economic collapse, and you don’t want to be left holding the bag with Japanese stocks. More intrepid investors could consider shorting the yen or aggressively  shorting Japanese bonds via the DB 3x Inverse Japanese Govt Bond Futures ETN (JGBD).

In any of the cases above, patience will be needed. Japan has limped along with a broken economy for nearly a quarter century. There is no guarantee that the bottom falls out today. But given Japan’s debt and demographic issues, it is just a matter of time.

Charles Lewis Sizemore, CFA, is chief investment officer of the investment firm Sizemore Capital Management and the author of the Sizemore Insights blog. As of this writing he had no positions in any security mentioned.

Photo credit: Gareth Jones

Disclaimer: This material is provided for informational purposes only, as of the date hereof, and is subject to change without notice. This material may not be suitable for all investors and is not intended to be an offer, or the solicitation of any offer, to buy or sell any securities nor is it intended to be investment advice. You should speak to a financial advisor before attempting to implement any of the strategies discussed in this material. There is risk in any investment in traded securities, and all investment strategies discussed in this material have the possibility of loss. Past performance is no guarantee of future results. The author of the material or a related party will often have an interest in the securities discussed. Please see Full Disclaimer for a full disclaimer.

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SYLD: An ETF You Can Buy and Hold Forever

The philosophy of “buy-and-hold” investing is either holy writ or deviant heresy, depending on who you ask.

My view here is a little more nuanced. You have to balance the benefits of a buy-and-hold approach — such as lower taxes and transaction costs, the historical upward bias of the market and the peace of mind that comes from removing yourself psychologically from active investing — against the possibility of a major drawdown or a permanent loss of capital.

Buy-and-hold investing looks great in a bull market. But it’s a lot harder to defend during a major market rout like the 2008 meltdown.

For most investors, a blended approach will probably make the most sense. You can buy and hold with a portion of your portfolio and take a more tactical approach with the rest.

Today I’m going to give you a solid ETF recommendation for the buy-and-hold portion of your portfolio: Cambria Shareholder Yield ETF (SYLD).

Why SYLD?

SYLD is the brainchild of quant guru Meb Faber, one of my favorite analysts. Ironically, perhaps, given that I am touting it as an ETF to buy and hold, SYLD is actively managed based on Faber’s screening. SYLD invests in 100 stocks with market caps greater than $200 million that rank among the highest in “shareholder yield.” Shareholder yield has been defined differently by different analysts, but Faber defines it as a combination of (a) cash dividends, (b) net share repurchases and (c) debt repayment.

All in all, these are three great measures of shareholder friendliness. SYLD has a bulletproof collection of stocks that will survive Armageddon. And its active management ensures that you’re not left holding a portfolio of dogs the next time a bear market hits.

Let’s dig into Faber’s investment criteria.

There is no stronger signal a company can send to the investing public than a dividend hike. When you commit yourself to parting with a significant chunk of your cash, you had better be certain that your business prospects are good. Because nothing is more devastating to investor morale than seeing a dividend cut.

A high dividend also forces management to be disciplined. It can’t throw cash at risky, questionable projects when it knows it needs that cash on hand to pay its shareholders.

Share repurchases also send a powerful message, and they can be thought of as tax-efficient dividends. A shrinking share count boosts earnings per share and, coincidentally, makes continued dividend hikes more likely.

But the key here is that share repurchases must actually reduce share count. If they simply “mop up” new shares created to satisfy employee and executive stock options, they’re not worth a whole lot.

And naturally, it’s easy to understand why debt repayment is attractive. Lower debt levels mean less potential for financial distress during the next crisis. And starting with a low debt load gives you flexibility. Should an opportunity arise, a low-debt company can always borrow new funds to take advantage of it.

We’ve seen plenty of that recently from the likes of Apple Inc. (AAPL), which — at Carl Icahn’s prodding — has borrowed cheaply to snap up its underpriced shares in the market. But a debt-laden company will generally lack the means to borrow at exactly the time that doing so would be most attractive.

This is why I consider SYLD a solid buy-and-hold choice. I think of SYLD as the ultimate quality index, and its margin of safety comes from the fact that its constituent holdings are financially strong enough to survive a financial apocalypse — and even profit from one.

SYLD tries to keep its holdings equally weighted, but naturally there is portfolio drift between rebalancings. Today its biggest holdings include Frontier Communications Corp (FTR),Lowe’s Companies, Inc. (LOW), Legg Mason Inc (LM), Apple, Chemed Corporation (CHE), CVS Health Corp (CVS) and Western Digital Corp (WDC).

Several of these — including Apple and CVS — are companies I might be tempted to buy and hold on an individual level. But others — such as Frontier Communications and Western Digital — are stocks that I’d probably avoid putting in a long-term portfolio.

That’s the beauty of SYLD. You’re not buying and holding a stock so much as you are buying and holding a strategy. The individual holdings change over time, but the methodology for choosing them does not.

Charles Lewis Sizemore, CFA, is chief investment officer of the investment firm Sizemore Capital Management and the author of the Sizemore Insights blog. As of this writing he was long AAPL and SYLD.

Disclaimer: This material is provided for informational purposes only, as of the date hereof, and is subject to change without notice. This material may not be suitable for all investors and is not intended to be an offer, or the solicitation of any offer, to buy or sell any securities nor is it intended to be investment advice. You should speak to a financial advisor before attempting to implement any of the strategies discussed in this material. There is risk in any investment in traded securities, and all investment strategies discussed in this material have the possibility of loss. Past performance is no guarantee of future results. The author of the material or a related party will often have an interest in the securities discussed. Please see Full Disclaimer for a full disclaimer.

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