The Lifelong Income Portfolio’s primary directive is to generate sustainable income from investments that will appreciate in value over time while limiting the strategy’s overall volatility.
We try to limit the portfolio’s ups and downs by focusing on quality. This approach entails weighing each company’s growth prospects and steering clear of names that offer big yields because their businesses have started to weaken. With this strategy, we can avoid devastating blowups that can threaten the portfolio’s overall value.
Income-seeking investors have faced a number of challenges this year, with the collapse in energy prices hitting master limited partnerships (MLP) particularly hard and concerns about rising interest rates giving investors an excuse to sell other dividend-paying groups.
Mining-related stocks have also absorbed hard hits, thanks to concerns about China’s slowing economic growth and excess productive capacity for many basic materials.
The Dow Jones Utilities Average, Bloomberg North American REIT Index and the S&P 500 Telecom Services Index are also in the black on the year, including dividends.
Although the energy sector and mining industry have sold off because of oversupplied commodity markets, the weakness in utility stocks, telecoms and real estate investment trusts (REIT) reflects fear that the Federal Reserve’s plan to raise interest rates will reduce the value of future dividends or inhibit economic growth.
These fears appear overblown. When the Fed raised interest rates from by 425 basis points between June 2004 and June 2006, most dividend-paying equities outperformed relative to the S&P 500.
However, many of these income-oriented groups lagged in the months leading up to the Fed’s first interest rate hike in 2004 and then outperformed once the central bank started to tighten credit availability.
Will the next few years bring a repeat performance for dividend-paying equities? The timing of the Fed’s latest tightening cycle comes in the seventh year of a bull market and halting economic recovery—not the early stages of a post-bust rally. This difference could limit near-term gains.
At the same time, anticipation of a shift in monetary policy has taken dividend-paying stocks down a peg.
Further market turbulence could give investors an excellent opportunity to establish or add to positions in best-in-class stocks. In coming issues, we’ll highlight a number of high-quality dividend payers that are on our watch list for potential inclusion in the Lifelong Income Portfolio.