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In search of yield!

By   /  August 25, 2014  /  No Comments

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In search of yield!

A question that every saver in America is asking now is “Where can I find a good yield?” Yield is another term for the interest rate. It can take some other forms such as dividends paid to shareholders in a firm (dividend yield). The Federal Reserve (FED) has kept the interest rates at multi-decades low to prop up the economy and reduce the unemployment rate. The 1 year Jumbo Certificate of Deposit (CD) rate offers hardly 1% interest rate. The official figures from the Bureau of Labor Statistics (BLS) give CPI (Consumer price index) at 2%. In real terms, the purchasing power of $100 in Jan 1st 2014 only gives you $98 in Jan 1st 2015. You still lose money in real terms by investing in that 1 year Jumbo CD. The low interest rate has been a boon to homeowners who refinanced their mortgages multiple times, stock & bond holders, investors in commercial and residential real estate etc. This has come at a great cost to the savers who have kept their money in checking accounts, saving accounts and CDs. Let us discuss some of the options if you have your savings yielding 0.1% to 1% in a bank account.

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Suvidha

 

The stock market has been on a tear lately. The S&P 500 has tripled from the 2008 bottom. The “it is a bubble” talks have already started. If you have an investment time horizon of 5 years or less, investing in the stock market may not be a good idea. The bond market is also in a bubble. The dramatic drop in interest rates has pushed the bond yields down and prices high. You should expect the reversal when rates go up, i.e. the bond yields will go up and bond prices will drop. Many owners of bonds will experience capital loss on their principal amounts if rates go up. For a detailed explanation, please refer to this pdf http://www.sec.gov/investor/alerts/ib_interestraterisk.pdf. The FED has already telegraphed to the market that interest rates are going to rise in 2015 and 2016. The FED funds rate (the rate that is paid by one bank to the other) is currently close to zero and will hit the long term average of 4%. We’ve summarized the options in the table below.

# Investment Description Risks Rewards
1 FD with Indian banks Some banks like IOC offer 4.9% for 5 yr term. Only available for NRI’s and Indian citizens. US residents are supposed to pay tax in USA on interest earned in Inda.
  • No risk of principal loss
  • Very low risk of default
  • No exchange rate risk
  • Interest rate is fixed and is currently higher than US savings & 5 yr CD rates
2 Muni bonds e.g. symbol MUB (iShares national muni bond etc)
  • Risk of principal loss
  • Very low risk of default
  • Yield return could be less than capital loss on principal
  • Current yields at ~2%; tax advantaged
3 Junk bonds These are bonds issued by corporations that have less than stellar credit quality. Some ETF’s are HYG, JNK
  • Risk of principal loss
  • Higher risk of default
  • Yield return could be less than capital loss on principal
  • Current yields at ~5.8%
4 Fixed rate Corporate bonds They come in many flavors. Longer the term and lower the credit quality, higher is the yield
  • Risk of principal loss
  • High risk of default
  • Yield return could be less than capital loss on principal
  • 5 year AAA (highest quality) yields ~1.85%
  • 5 year AA yields ~2.02%
5 Floating rate bonds Interest rates on floating are not fixed and change and are linked to an index like LIBOR. Currently offer very low interest rates.  An example is ETF “FLOT”
  • Slight risk of principal loss
  • Lower risk of default
  • Yield return may compensate for capital loss on principal
  • Very low current yields, but go up if FED increases the rate
6 Whole life policies Companies like AIG, Metlife, MassMutual etc provide them
  • Premiums paid in initial years go towards commissions and administrative costs
  • Yield depends on the financial instrument that is used as basis.
7 Annuities An annuity is a contract between you and an insurance company that is designed to meet retirement and other long-range goals, under which you make a lump-sum payment or series of payments. In return, the insurer agrees to make periodic payments to you beginning immediately or at some future date. There are generally three types of annuities — fixed, indexed, and variable.
  • High costs, but has insurance component
  • Depends on type of annuity
8 High dividend stocks, REITS There are companies paying high dividend at rates of 3% and which increase every year.  Example: REITS: VNQ, HCN, Non-Reits: T
  • Capital loss in case of market drop
  • Company specific issues can result in capital loss
  • High Yield which is increasing every year
  • Yields average 5% or above
9 Preferred shares of blue chip firms Preferred shares are issued by companies paying a fixed dividend.  A good option could be preferred ETC “PFF”. Companies like Wells Fargo, Bank of America and others issue preferred shares.
  • Principal loss in case of interest rates increase
  • Company specific risk can result in capital loss
  • Dividends on preferred shares can be suspended
  • PFF yields 6.+%
10 Master limited partnerships MLP’s are partnerships that distribute gains and losses to individual security owners.  SGU – star gas BBEP – Breitburn energy BIP –Brookfield investment partners KMP, KMI – Kinder Morgan
  • Principal loss in case of interest rates increase
  • Company specific risk can result in capital loss
  • Yields average 5% or above
  • Yields go up over time

Glossary: ETF –Exchange traded funds.

 

Disclaimer: This article was prepared by the principals (Manish, Manoj & Vish) at Oxford Chase advisors LLC. All information contained herein is for informational purposes only, should not be construed as investment advice, and does not constitute an offer, solicitation or recommendation to purchase any security or investment advisory service. If you have any suggestions for new articles or have questions, feel free to contact us at info@oxfordchaseadvisors.com. Also visit our website www. oxfordchaseadvisors.com.

 

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