Maximize your investment income
By Bob Moeller
WEAC Member Benefits
April 2007
Financial
Planning Seminars
Achieving
Financial Independence
It is hard to invest for income these days.We are experiencing
an unusual interest rate environment called an inverted interest rate
curve. What this means simply is that longterm interest rates are lower
than short term.As I am writing this, a onemonth treasury bill is paying
a 5% annual rate.A one-year treasury bill is paying 4.85%, and a 30-year
is paying 4.67%. My daily interest money market accounts are paying
5.1%.All your short-term investments should be yielding around 5% also.
Things are further complicated by the fact that there
seems to be no general agreement as to whether interest rates will go
up or down.
Here are a few thoughts about maximizing your income in
investments:
- As a general rule, banks pay lousy interest rates on savings accounts,
frequently less than 1% per year. Don’t have any savings accounts.
- Money market accounts and money market mutual funds are capable
of paying a much better rate, but not all do. Check very carefully.
Right now, the NEA-Sponsored/Bank of America Money Market Account
and the Vanguard Prime Money Market Mutual Fund are both paying over
5%. Use this type of account for your cash type accounts.
- Regular checking accounts are convenient and necessary.Typically
they pay very little if any interest. Keep only minimal amounts in
these accounts.
- Short-term CDs are paying better than long-term. Stick with shortterm
until the interest curve gets a little more normal.
- Bonds and bond mutual funds will go down in value if interest rates
go up.The longer the term left in the bond (or average maturity if
held in funds), the more it will go down if rates go up.The key word
here is duration (this is not the same as maturity). Duration is a
measure of how much a bond or bond fund will go down if interest rates
go up 1%.Any bond fund can easily tell you what its average duration
is. For example, if a bond fund has holdings with an average duration
of seven years, that means that if interest rates go up 1%, this bond
fund will drop in value about 7%.The message here is don’t invest
in long-term bond funds if you think interest rates will go up in
the future.
- Dividends are an attractive source of investment income. Many dividends
qualify for lower income tax rates, 10% or 15% maximum. And, many
companies pay higher dividends each year, which of course means the
price of the stock will tend to go up since the income is going up.You
can now purchase Exchange Traded Funds (ETFs) which invest in a basket
of top dividend paying companies.You have no research or trading to
worry about, and total management fees are maybe 0.6% or less. Just
a couple of examples are symbol DVY and PEY. This type of investment,
available through any brokerage account, is a good place for some
of your money.
- Real Estate Investment Trust (REITs) stocks, or funds that hold
such stocks, have done very well over the past several years.They
used to pay quite high dividends, but the price has gone up a lot
so that now the effective yield is much lower. Still, a good REIT
mutual fund is something you can consider for a long-term investment.
- Limited Partnerships often pay quite high dividends. Some are higher
risk than others. But I am reading that ETFs are about to become easily
available that will invest in limited partnerships on your behalf,
do the research, etc., and charge you a low fee such as 0.6%. You
do have to be aware that limited partnerships may result in a more
complicated income tax filing.
- If you want to do a little research on income/oil fields, etc.,
I recommend you take a look at the Web site www.mcdep.com.The author
looks at various oil and natural gas issues, some of which are paying
in excess of 8% and are available on the major stock exchanges.Typically
these are Royalty Trusts, but major oil companies like Exxon Mobil
are also covered.
- Requiring more work/research on your part, good quality preferred
stocks are paying in the area of 6% and can be purchased through any
brokerage account. For example, Bank of America has several preferred
issues. One example is their “V” preferred which pays
6% of $25 each year (1.5% quarterly), and sells today for $24.63,
a yield of not quite 6.1%. It is callable any time after 11/03/2009
(you would get $25 + any interest due), and matures in 2034. It is
rated A.With preferred stock, you need to make sure how it is rated
(I’d stick with A or better), when it matures, when it can be
called and what the yield to call is. Don’t be tempted with
just a high yield. I have invested in many of the above types of income
issues, but have to admit that with the present interest rate situation
it is much harder to find really good situations. So keep your investable
cash in 5% money market type accounts and spend some time looking
and waiting.
Posted March 26, 2007
