Since 2008 the Fed has made it extremely difficult for income investors to win. Yield-Starved Investors need a Better way to approach investing for yield.
How You Can you earn market-beating yield and Manage Your Risk…
in 3 Simple Steps
It wasn’t that long ago that earning yield was simple. Invest your money in 5-year CDs or 10-year Treasuries and safely earn 4%–5% per annum. For those who rely on income for their retirement, it was a risk-free, “invest it and forget it” strategy.
But after the crisis hit in 2009, the Fed took a hatchet to interest rates… and to those opportunities.
While the Fed is now raising rates, those same instruments only yield around 2.8% today… which means we would have to get another five quarter-point rate hikes before 4% yields make a comeback.
Now ten years into the economic expansion, the smart money is betting we will enter a recession before that happens.
Even worse, the low returns on your savings are likely to be with you for years to come as Western governments buckle under the weight of their crushing debts and unpayable promises. You see, with the huge mountain of debt that governments have borrowed, they simply cannot afford rates to rise as the interest costs would reach levels that they can not afford to pay.
Faced with the “lower for longer” problem, investors have been forced into dividend stocks and low-grade bonds to earn returns. While their need for yield has been fulfilled, they’ve taken on huge amounts of risk in the process.
If you have this problem and concerned about the safety of your investments… we want to show you a way to earn a first-class yield without lowering the quality of your portfolio and taking unnecessary risks.
There are two major problems facing income investors today.
First, current yield levels are at all-time historic lows while at the same time both high yield bonds and stocks are priced to perfection. Investors are receiving very little return despite the risk that they are taking on. Perhaps investors have been lulled into a feeling of complacency since it has been a decade since the markets have suffered declines any greater than 10%. But it doesn’t mean that the risks do not exist. They do, and this time the risks may be greater than ever before.
Let’s take a look at high yield bonds.
During the last recession, yields on high yield bonds spiked from around 6% to over 25% between May 2007 to December 2009.
Remember yield and price are inversely related and investors in the popular SPDR Barclays High Yield ETF (JNK) watched their investment decline by over 40% in the same period!
Noted financial expert John Mauldin recently gave the probability of a credit crisis in high yield junk bond market as close to 95% citing concerns of illiquidity. He also cites the sheer amount of debt as problematic and at levels, as measured by Corporate Debt-to-GDP that have
And today both junk-bond yields the average stock dividend yield are near the lowest in financial market history!
Now let’s look at another popular approach to investing for income – dividend stocks.
When central banks lowered interest rates to historic lows in the wake of the financial crisis, investors were forced into dividend stocks to generate meaningful returns.
Buying dividend stocks was a good investment in 2009 or even 2012… but years of massive inflows into them has inflated prices
In 2017, Research Affiliates found that dividend stocks are more expensive than they’ve been over 80% of the time in the last 40 years.
Buying these stocks at such lofty valuations means taking a big risk. A sharp decline in share prices would dwarf any income received from dividends.
With the average dividend yield on the S&P 500 now below 2% and prices at all-time highs, most dividend stocks may end up being a safety-minded investor’s worst nightmare.
During the 2008 market correction, the Dividend Aristocrats fell 21.9%. And remember, this represents a very small select group of companies that have increased their dividends every year for at least 25 years. These are the best of the best among dividend stocks. Dividend-focused mutual funds, such as the T. Rowe Price Dividend Growth Fund 33.26% in 2008. Remember, the bigger the drop, the bigger the hole you have to climb out of.
|Amount of Loss||Return Needed to Breakeven|
In Cornerstone Income we spread your exposure across multiple income sources including U.S. Government Treasuries, corporate bonds including high yield securities, dividend income stocks, REITs, preferred stock, and master limited partnerships. Using our “Downside Risk Protector” process, we automatically allocate to cash or short-term securities during periods of unfavorable market periods.
By focusing on downside risk management our goal is to prevent large drawdowns from occurring and to minimize the time to recover from periods of market declines.
use A RULES-BASED APPROACH
In general, most investors can be their own worst enemy when their hard earned money is on the line.
Since 1994, DALBAR has measured the effects as investors buy, sell and switch into and out of mutual funds over short and long-term timeframes. The results consistently show that the average investor earns less – in many cases, much less – than mutual fund performance reports would suggest.
The simple reality is that investors’ psychology is the biggest impediment to long-term success. Investors buy when they should be selling and sell when they should be buying. The basis for this can be explained by the growing field of behavioral finance which has identified the many ways that investors sabotage their own success through what are known as cognitive biases.
Looking for a simple way to improve performance?
Remove human emotion.
Which is why we favor rule-based systems over other investment approaches. Rules-based-Investing (“RBI”) relies on a repeatable process that provides the investor an edge and that can be demonstrated with data. There are no hunches, guessing, prognostications of the future, or emotional buying and selling. Every action to buy or sell a security is predetermined and is based upon empirical evidence.
Did you know that some of the worlds largest and most successful hedge funds use rules-based approaches?
Consider Renaissance Technologies, a hedge fund firm founded in 1982 which specializes in systematic trading using quantitative models derived from mathematical and statistical analyses.
Renaissance’s flagship Medallion fund, which is run mostly for fund employees, is famed for one of the best records in investing history, returning more than 35 percent annualized over a 20-year span”. From 1994 through mid-2014 it averaged a 71.8% annual return. With over $65 billion in assets under management, it’s little wonder why this is considered one of the best money management firm’s in existence.
Which brings us to our final step…
invest with expectancy
For a lot of investors, the term expectancy may be new to them. But it shouldn’t be.
How would you like to know you expected outcome before you ever invest your hard earned money?
You can and that is the power of mathematical expectancy.
This concept is nothing new. Insurance companies build their fortunes through the use of weighted probabilities. They know from studying data the probability of a house catching on fire, a motorist having an accident, or a person dying. It all comes from the law of large numbers. By knowing this in advance, they then know how much they need to charge for insurance to make a profit.
Similarly, casinos build their business on exploiting edges. Every game inside of a casino contains a “house edge” that gives them the advantage. Despite the occasional large payout to some lucky patron, the law of large numbers again provides the casino with its profit. The more times a gambler plays a game, the more he helps assure that the law of large numbers tilts to the casino’s favor.
Let me ask a question. If you were offered a coin toss in which for every time it came up heads you were paid $1.05 and were required to pay $1.00 for every tail, how many times would you want to play that game? Your “edge” would be $.05.
Your answer should be as many times as you can as fast as you can because of the law of large numbers.
Over enough coin tosses, your expected gain is more than your expected losses so the more times you play the greater your gain. Play this game often enough and you could amass a small fortune.
So what does this have to do with investing for income?
Systematic investing also relies on gathering data, extrapolating an edge, and the law of large numbers. It is in fact, the backbone of a rules-based investment strategy.
Cornerstone Income obtains its edge from the methodical application of a mathematical ranking system that measures both trailing returns and volatility. There are dozens and dozens of white-papers that discuss the efficacy of the “momentum factor” which this is based on. By systematically measuring the universe of ETFs that are included as part of the Cornerstone model, the strategy is able to identify market shifts as they are occurring.
While no system is perfect and every system will undergo periods of losses, just like in our imaginary coin toss, the Cornerstone methodology has historically provided more larger average gains and fewer smaller losses which give the model its mathematical edge.
For investors, its simply rinse and repeat – each month a new set of signals is provided and can be implemented in just a handful of minutes. Investors can receive the benefit of a sophisticated strategy that is always studying the market, while they do not have to be a slave to their portfolio.
It really doesn’t get any easier.