Dividend Stocks in place of Bonds

[Hydroman]

I have been considering investing in dividend stock funds instead of using bond funds to temper volatility during ER. My initial investigation indicates that I will get much more return without a large increase in portfolio volatility by replacing VG Total Bond Market and TIPS with something like DOW Dividend Index ETF (DVY) and Powershares' International Dividend ETF (PID).

Opinions/Feedback from the experts solicited.

Thanks.

 

[Dawg52]

I have been considering investing in dividend stock funds instead of using bond funds to temper volatility during ER. My initial investigation indicates that I will get much more return without a large increase in portfolio volatility by replacing VG Total Bond Market and TIPS with something like DOW Dividend Index ETF (DVY) and Powershares' International Dividend ETF (PID).

Opinions/Feedback from the experts solicited.

Thanks.

I'm also using these 2 etf's but I'm hedging my bets by also using TIPS and VG's total bond market etf. This along with some cd's will provide me with all the income I need. I'm not and expert though.

 

[milmoose]

I like PID and DVY, but if you're looking to reduce portfolio volatility, you're moving in the wrong direction. These are reasonable expectations for Standard Deviation (in real terms) for the options you mentioned:

TIPS: 0%. Guarenteed real return.
Vanguard Total Bond Market: 4-5%. Some duration risk. Some default risk.

S&P 500 (for comparison): 18%, inline with historic averages.
Now, the dividend focus will temper volitility A BIT, but not in a dramatic way. I'd expect the following for the dividend ETFs:
PID: 16-18%. Basically inline with the S&P.
DVY: 14-16%. Below the S&P, but still well above bonds.

Of course if you are in ALL bonds and looking at a 10-15% allocation to equities, the lack of correlation between the asset classes will temper overall portfolio volatility. But if this is an augmentation to a portfolio that is alre2ady 50-70% equity, you are likely to increase overall portfolio risk.

- M

 

[saluki9]

You're kidding yourself if you think dividend paying stocks are a replacement for bonds.

Writing naked options also throws off cash flow, perhaps you would like to consider that too

 

[mathjak107]

I agree volatile dividend paying stocks and the ease of dividend cuts are no proxy for bonds. bonds you have your interest plus your principal. dividend paying stocks have a cut in nav for the dividend payout. you kind of hope they come back to pre payout levels but looking at the top 10 dogs of the dow , the highest yielding bunch , over the last few years you would be in big trouble.

 

[ats5g]

See HIGH DIVIDEND STOCKS: BONDS WITH PRICE APPRECIATION?.

btw - if anyone wants to see how portfolios of high dividend paying stocks did since 1928, check out Ken French's data library. He's got all sorts of historical returns for portfolios sorted by dividend yield [low div's, high div's, no div's, etc.]. monthly and yearly returns.

- Alec

 

[Freein05]

I agree volatile dividend paying stocks and the ease of dividend cuts are no proxy for bonds. bonds you have your interest plus your principal. dividend paying stocks have a cut in nav for the dividend payout. you kind of hope they come back to pre payout levels but looking at the top 10 dogs of the dow , the highest yielding bunch , over the last few years you would be in big trouble.

I will second that I have some Ford stocks and bonds. Dividend was cut and even at the current low price for Ford the yield is only 2.5% my bonds are still paying 7.65%. I need some help though. So please go out and buy a Ford.

 

[unclemick]

You are not paranoid if someone is really out to get you - right? Isn't that a Sean Connery line from one of his non Bond movies?

Anywise - one form of slaughter which seemed to afflick me - was I couldn't keep the withdrawal rate down - because of periodic cash/stock spin offs, cash buyouts, or merger mergers with cash bonuses. Dang Aussies bought my New Plan REIT and the Scot's are trying to get my KSE(the old Long Island Lightning). Less than half the stocks left that I started buying in the early 90's seem to have the same name even. Haven't run a calc lately but I think I ran over 8% thru the 90's and 2000's.

So you may reinvest if you are in the accumulation phrase - but expect the unexpected as in getting tax nicked on some cap gains and extra div cash you didn't plan on.

Bonds - I think make life a 'little' more predictable.

One of these years - I'll be Drip free and all my stocks in Vanguard broker account - one file cabinet left.

heh heh heh :

 

[aenlighten]

It really depends on how costly those bonds are. I wouldn't mind 7.65% either, but that would put you past junk these days. For security, buy security, that means treasuries, but at 2% real, they are horribly expensive.

 

[mathjak107]

the whole point of bonds is to have an income stream thats un-effected by the stock market . having to liquidate stocks in a cash crunch or to rebalance in a down market is death to a portfolio. you could sell 2 or 3% a year of any stocks and creat your own dividend. keep your stock portfolio seperate from your fixed income.

 

[chinaco]

See HIGH DIVIDEND STOCKS: BONDS WITH PRICE APPRECIATION?.

btw - if anyone wants to see how portfolios of high dividend paying stocks did since 1928, check out Ken French's data library. He's got all sorts of historical returns for portfolios sorted by dividend yield [low div's, high div's, no div's, etc.]. monthly and yearly returns.

- Alec

Nice summary article. Thanks.

 

[ashtondav]

There really is no need for non inflation linked bonds at all if you have a good selection of dividend paying shares AND you can survive on just the dividends. Volatility of capital is a complete irrelevance if you never have to touch the capital.

Dividends usually rise in line with inflation and a reasonable bunch of stocks should yield 4%. Therefore a 4% plus inflation income is possible for life with no withdrawals from capital.

Dividends only go down with recessions and times of hyper inflation. Looking at the past 60 years the dividend investor would have suffered once - in the '70s, when his real income would have dropped by 35%. So probably advisable to have a stash of inflation linked bonds to cover that type of eventuality.

 

[brewer12345]

the whole point of bonds is to have an income stream thats un-effected by the stock market . having to liquidate stocks in a cash crunch or to rebalance in a down market is death to a portfolio. you could sell 2 or 3% a year of any stocks and creat your own dividend. keep your stock portfolio seperate from your fixed income.

Correct, except that anyone who held junk bonds throuugh 2002 and 2003 could tell you that your statement really pertains to treasuries and very high grade bonds, not all bonds.

 

[mathjak107]

yes junk bonds are really stocks in disguise.

 

[Gone4Good]

I have been considering investing in dividend stock funds instead of using bond funds to temper volatility during ER. My initial investigation indicates that I will get much more return without a large increase in portfolio volatility by replacing VG Total Bond Market and TIPS with something like DOW Dividend Index ETF (DVY) and Powershares' International Dividend ETF (PID).

Opinions/Feedback from the experts solicited.

Thanks.

If you're looking to reduce portfolio volatility (as stated in your post) dividend paying stocks will not help you. (See the comparison of DVY price vs. Vanguard's Total Bond Market fund since the beginning of the year).

If you can stomach higher volatility AND live within the dividend yield, ashtondav has a fair point. But DVY currently has a dividend yield of ~3.5% which is below most folks targeted WR. Even so, DVY, like any high yielding stock fund, is far too concentrated in a handful of sectors. DVY, for example, has 65% of its portfolio in utilities and financials. To build a more balanced equity portfolio, the dividend yield, and therefore your WR, must come down to employ a "living on the dividends" strategy.

 

[Danny]

It's May so I sold stock in my IRAs last week (leaving stock alone for the long haul in my taxed accounts) and went away - am now in CDs & Closed-End Funds (no leverage)... I'm liking steady streams of income more and more now - must be old age... do your own due diligence before taking the advice from anyone on the internet....you can trust me however

BDJ - BlackRock Enhanced Dividend Achievers Trust - Yield 8.15%
JLA - Nuveen Equity Premium Advantage Fund 9.62%
JSN - Nuveen Equity Premium Opportunity Fund 9.50%
JPZ - Nuveen Equity Premium Income Fund 9.11%

plenty of others to choose from at ETF connect...
http://www.etfconnect.com/select/FindAFund.aspx

 

[Gone4Good]

BDJ - BlackRock Enhanced Dividend Achievers Trust - Yield 8.15%
JLA - Nuveen Equity Premium Advantage Fund 9.62%
JSN - Nuveen Equity Premium Opportunity Fund 9.50%
JPZ - Nuveen Equity Premium Income Fund 9.11%

These seem to fall under the "no such thing as a free lunch" category. It looks like they monetize all of the equity upside by selling calls against the entire portfolio (you still keep all the downside). Assuming the options market is efficiently priced, I'm not sure these funds are any different then withdrawing an amount similar to the fund yield from a normal equity portfolio.

 

[Danny]

These seem to fall under the "no such thing as a free lunch" category. It looks like they monetize all of the equity upside by selling calls against the entire portfolio (you still keep all the downside). Assuming the options market is efficiently priced, I'm not sure these funds are any different then withdrawing an amount similar to the fund yield from a normal equity portfolio.

thanks for your feedback, that's interesting...what do you think will happen to these cefs if we go into a down market?...does the graph reflect the 9% yearly return as well as the unit price movement?..thank you

 

[Gone4Good]

does the graph reflect the 9% yearly return as well as the unit price movement?

The graph only shows change in price, so yield would be incremental to that. Average annual returns (including distributions) for the Nuveen funds are:

JPZ: 6.04% (from inception 10/2004)
JLA: 6.24% (from inception 5/2005)
JSN: 5.77% (from inception 1/2005)

These returns seem lower than I would have guessed. Not sure why.

what do you think will happen to these cefs if we go into a down market?

I'd think they should outperform in down markets and underperform in up markets. In down markets the portfolio benefits from the premiums on the unexercised calls sold. And in up markets equity returns above the strike price gets called away.

 

[Danny]

The graph only shows change in price, so yield would be incremental to that. Average annual returns (including distributions) for the Nuveen funds are:

JPZ: 6.04% (from inception 10/2004)
JLA: 6.24% (from inception 5/2005)
JSN: 5.77% (from inception 1/2005)

These returns seem lower than I would have guessed. Not sure why.


I'd think they should outperform in down markets and underperform in up markets. In down markets the portfolio benefits from the premiums on the unexercised calls sold. And in up markets equity returns above the strike price gets called away.

Thks for your help 3 to go...maybe the return will be better going forward...of course that might require a down market :

 

[Islandboy]

The graph only shows change in price, so yield would be incremental to that. Average annual returns (including distributions) for the Nuveen funds are:

JPZ: 6.04% (from inception 10/2004)
JLA: 6.24% (from inception 5/2005)
JSN: 5.77% (from inception 1/2005)

These returns seem lower than I would have guessed. Not sure why.


I'd think they should outperform in down markets and underperform in up markets. In down markets the portfolio benefits from the premiums on the unexercised calls sold. And in up markets equity returns above the strike price gets called away.

They should also outperform in a flat market or if it is in a tight trading range. I like to write covered calls and naked puts when the premium is interesting although i would consider it more in between investing and gambling

 

[saluki9]

They should also outperform in a flat market or if it is in a tight trading range. I like to write covered calls and naked puts when the premium is interesting although i would consider it more in between investing and gambling

yup, a flat market is when the do very well. In falling markets the income from the unexercised calls is not usually enough to offset the losses in the equity portion.

 

[Gone4Good]

They should also outperform in a flat market or if it is in a tight trading range.

Agreed.

 

[cute fuzzy bunny]

See HIGH DIVIDEND STOCKS: BONDS WITH PRICE APPRECIATION?.

I think the author of this intended to create a fairly unpleasant sounding scenario, but I read it as "decide to follow up on a potentially good idea, fail to diversify or understand your investments, then feel woeful when short term issues arise."

I guess theres a handful of things to consider.

1) Producing an income to pay the bills and have a pleasant life
2) Protecting your investments from excessive loss
3) Volatility levels you can live with
4) Producing satisfactory growth of your investments to maintain your lifestyle and offset your personal rate of inflation

To me, bonds just strike out on #4. You're playing to not lose too badly, but lose you will.

I also miss out on the concept of putting 20-25% of your money into TIPS/equiv and calling that inflation protection. You've protected a small portion, no more. And you'll earn crappy rates of return excepting the brief periods of very high inflation. Which a lot of prognosticators (yeah, I know) feel arent in our future.

Stocks suck on #3, unless you're in it for the long haul in which case its almost irrelevant.

IMO, a year or two in cash and cd's, the rest in value stocks that pay a nice dividend, hang on for 20+ years, and you're going to accomplish all four objectives far better in the long run. Especially with the tax treatment that qualified dividends receive at this time.

 

[Gone4Good]

IMO, a year or two in cash and cd's, the rest in value stocks that pay a nice dividend, hang on for 20+ years, and you're going to accomplish all four objectives far better in the long run. Especially with the tax treatment that qualified dividends receive at this time.

This strategy certainly can work, but I think it is the rare individual who will stick with it through a long bear market.