When searching for higher yields to provide more investment income, there's something to be learned from Ted Williams, the Boston Red Sox legend. His success started with an ability to keep his eye on the ball and to resist swinging with a lot of arm muscle.
Williams could actually see the threads on a spinning fast ball as it headed toward the plate -- one of the purest expressions of "keeping your eye on the ball." As for muscle control and restraint, his challenge as a batting coach was convincing young power hitters to relax arm muscles so that swinging approximated a bullwhip instead of a two-by-four. These two fundamentals -- focusing on what's important and staying relaxed -- can be keys to achieving higher yields and therefore more income from investments.
First, we need to recognize bonds for what they are and how they differ from stocks. Since bond values can rise and fall until a bond actually reaches maturity, we shouldn't concern ourselves with those capital value fluctuations. By comparison, stocks with high-dividend yields that look tempting (like Verizon (VZ) paying 4.7 percent right now) are not guaranteed to recover from a downturn, but recovery is a reasonable expectation in the light of 80 years of stock market history.
Keeping our eye on the ball, then, involves a focus on the income we generate. With reasonable confidence that we will be getting all of our money back sooner or later, we can relax and focus on
By forgetting about the capital value, we put ourselves in a position to benefit from the "risk premium" that pays higher returns to anyone who can live with volatility in an investment.
When turning to high-yield bond funds, today's interest earnings amount to a yield that is about 6 percent. The managers of these funds try to avoid defaults and this means selling bonds that look like they might be in trouble before disaster strikes. As a result, over long periods of time, high-yield bond funds, like Vanguard's High-Yield Corporate, actually lose an average of 1 percent per year in capital value. In recent years, this has not been happening because these bonds have been so popular that their prices have been rising -- an event that has offset the normal predictable drop in values.
That normal slight drop in values, however, is far outweighed by the substantially greater annual income than other, less risky, fixed dollar investments like money market funds, short term bond funds or CDs.
Apart from popular high-yield bond funds (some of which are now closed after being inundated with money) there are other resources for the search for higher yields. A monthly newsletter called "High-Yield Investing" offers a monthly focus on options that have merit. The most recent edition featured stocks of companies referred to as business development companies or BCDs. These companies make high-interest loans to mid-sized businesses and charge high interest rates. Created by legislation in 1980, they are compelled to pay out 70 percent of their annual earnings to stockholders in the form of dividends. In practice, they have been paying out more than 90 percent.
Two BCDs of note are Triangle Capital (TCAP) and Prospect Capital (PSEC), which have been yielding roughly 13 percent. A five-year history of their share prices shows both volatility and recovery.
The ability to remain relaxed through predictable ups and downs of debt instruments that involve more risk has generated steady, high income for those who have focused on that single objective. So wisdom from Ted Williams has broad application to more than just hitting home runs.
Steve Butler is CEO of Pension Dynamics. Contact him at firstname.lastname@example.org or 925-956-0505, ext. 228.