At Edgemoor Investment Advisors, we look broadly across various asset classes to find opportunities to invest for income. Most financial advisory firms limit their income investments to Treasurys and corporate bonds. While these have been an important component of our portfolios recently, the more consistent mainstays of our income strategy are preferred stocks, master limited partnerships, utilities, and other securities with high yields.
The mix of securities and asset classes that we buy changes over time, depending on market conditions. For example, beginning in the fall of 2008 we saw an opportunity to buy high-quality bonds, mostly investment grade but also some high yield, at significant discounts as a result of the turmoil in the credit markets. We stuck with relatively short maturities and companies with strong balance sheets, and we were able to find bonds with yields to maturity (the combination of coupon payments and the expected change in price to par value over time) often in the neighborhood of 7%-8%, but varying depending on the specifics of the security.
Now that credit markets have improved and, as a result, bond spreads have narrowed, we no longer find as many securities with these characteristics. Today we typically must either accept a lower yield for the same credit quality, or buy lower-quality bonds to get a yield comparable to what we were finding previously. That’s not to say that there are not still attractive corporate bonds available – many of the bonds we find now are suitable for our portfolios. However, the rare opportunity presented amidst the market crisis has largely gone away.
We are now returning our primary income focus to the other types of securities that we have long held in our portfolios. Preferred stocks, including those issued by real estate investment trust (REITS) and some financial institutions, offer attractive yields in the range of 7%-8%. Master limited partnerships, which are usually energy producers or pipeline companies, offer yields of 6%-8%. Finally, common stocks such as gas and electric utilities and telecom carriers, among others, provide dividend yields in the 4%-6% range. While these securities do not mature like bonds, we like the combination of high yields, rising dividends/payouts, and potential for capital appreciation.
This universe of our potential income investments, much broader than what most financial advisors consider for their income portfolios, provides a variety of attractive opportunities to generate income for our clients. We welcome your comments and thoughts.
