I Need Safe, Dependable Income I Can Count On!
Our recent article, In Government We Trust??, struck a nerve with many readers.
Subscriber Dan H. shared a graph, stating, “This is the only graph you need”.
This isn’t just the US. Urs Vrijhof-Droese recently provided his international perspective:
“Realistically, we are moving back to where everyone was responsible for their well-being throughout their life, including retirement. I would not trust the government’s social system too much.”
OK, easy to say, we need to be self-sufficient, live within our means, save our money and provide for our own retirement. Safe fixed-income investments don’t come close to beating inflation, and the stock market is risky. In a fit of frustration, a friend recently exclaimed, “I need safe, dependable income I can count on!”
A successful retirement plan provides ample income to live a reasonable lifestyle, without having to constantly worry about money.
Finding safe, inflation-beating returns, and being able to sleep well at night is a huge challenge in today’s world.
Urs discussed using different currencies to invest internationally in solid dividend-paying companies. The combination of dividends and currency appreciation versus the USD can beat inflation.
The traditional US corporation is governed by the Securities and Exchange Commission. The board of directors, elected by shareholders, decides what to do with their profits. While they may pay dividends, how much and when can be changed at will; and their stock prices generally reflect those decisions.
Tim Plaehn, editor of The Dividend Hunter explains there are certain corporate legal structures that protect investors, requiring profitable companies to pay out a large percentage of their profits, regardless of what else is happening in the market.
I’ve asked Tim to elaborate.
DENNIS: Tim, thank you for taking your time for our education.
Something that galls me is when times get tough, profitable companies choose to cut their dividends because “everyone else is doing it”; not because it is truly necessary. All too often, shareholders not only see their dividend income reduced, but also their stock prices crater.
Many of the investments you recommend are Master Limited Partnerships (MLP), Business Development Companies (BDC) and preferred stocks.
I’d like you to comment on their structures and how it addresses the need for SAFE, DEPENDABLE income.
Let’s start with MLPs. Tim, what are they, and what are their advantages and disadvantages?
TIM: Hi Dennis. Nice to be back.
The MLP structure is where investors are limited partners instead of shareholders; used primarily in the energy midstream sector. These companies own pipelines, terminals, and storage facilities. The majority of revenues come from long-term, fee-based contracts. As a result, MLPs can pay out a large portion of free cash flow as dividends, and the better MLPs pay stable and growing distributions.
The MLP business structure allows the tax advantages of owning infrastructure assets to pass through to the LP investors. As a result, the income earned from investing in MLPs is highly tax-advantaged.
There are also challenges when reporting taxes; particularly at the state level. For that reason, I like to invest in MLPs through an Exchange Traded Fund (ETF). The ETF shares pass through the tax advantages without passing along the tax reporting headaches.
DENNIS: Great, now let’s ask the same questions in relation to BDCs. Also, how do they differ from MLPs?
TIM: Business Development Companies (BDCs) were created by a 1980 act of Congress. A BDC provides financing solutions for small and midsized corporations. You can think of BDCs as specialized business leaders. Individual BDCs focus on different sectors of the small business economy.
BDCs are also regulated by the Investment Act of 1940. The Act limits the amount of leverage (debt to equity) a BDC can employ. BDCs are required to pay out at least 80% of net investment income as dividends to shareholders. As a result, BDCs are typically high-yield investments, with those yields ranging from around 7% to over 10%.
This is a good time for BDCs. They have permanent capital to lend. This means they do not face the declining deposits problems facing banks. BDCs also lend using adjustable-rate loans. As rates rise, so does net investment income. Over the last year, the quality BDCs have paid supplemental dividends on top of their regular payouts.
DENNIS: I just looked up Costco. Schwab says their Annual Dividend Rate is $4.08/share, which looks like a lot; yet the annual dividend yield is 0.8% – certainly not doing much to fight inflation. Barring extremely hard times, I feel those dividends are going to be paid in the short term.
Is there more risk/fluctuation in the dividends from MLPs and BDCs?
TIM: Dennis BDCs and MLPs can be referred to as pass-through entities. This means that they will, and may be required to, pass through the majority of free cash flow as dividends to investors.
If you want to invest for a high-yield income, you will end up with most of your capital invested in pass-through type stocks or funds. REITs are another form of pass-through structure.
Currently, the markets and businesses for both MLPs and BDCs are as stable as I can remember. As noted above, BDCs benefit from higher interest rates and reduced lending by commercial banks.
MLPs have spent the last six years, restructuring from the go-go growth days of the early years of the century. I have never seen cash flow to pay dividends as stable as currently exists. For MLPs, I don’t worry about dividend cuts. I analyze the sector for the best dividend growth.
Although things will change in the future, both BDCs and MLPs are very well set to thrive, and grow dividends for the next several years. There are companies in both groups that have thrived through decades, through economic swings and crises.
For an investor to make money with Costco, they have to hope the market continues to climb, no matter what.
DENNIS: Urs recently wrote “Cash is King”, both in relation to individual investors and corporations. His premise is that bargains shall appear; particularly when it is clear the Fed is going to change direction.
My high-dividend preferred stocks are paying like clockwork, but have gone down in value. As you have taught us, buying them below par value allows us more dividend income and guaranteed appreciation when the stock is called in.
When is it time for some of the “Cash is King” to be invested in these bargains?
TIM: I like to tell my subscribers that you grow your income with every share you buy. Although the high-yield sectors have recently started to see share price appreciation, I still see great deals everywhere. It’s not hard to pick up 10% or close yields from shares of very good companies.
The secret to buying stocks “on sale” is to get started and buy some shares. Once you are invested, you will see when the stocks you own get cheap, and with an income-focused mindset, it’s easy to buy when prices are low.
Doing this grows income faster, and will produce significant wealth gains when the market recovers. Share prices go through multi-year cycles, so it’s a long-term process.
How do investors protect the value of their nest egg?
How do retirees pay their skyrocketing living costs?
Luckily there’s a proven way for you to stay ahead of inflation, just like 20,000+ investors are doing right now…
Here’s how you can be one of them. Click HERE for more information.
DENNIS: While discussing cash, I’ve followed your advice and use automatic Dividend Reinvestment Plans (DRIPS) which are now giving me even more dividend income. Can you explain to our readers how they work?
TIM: This is related closely to your previous question. Brokerage accounts allow investors to select automatic dividend reinvestment. It’s as easy as checking a box. You can do it to some or all of the investments in your account.
With automatic reinvestment, when dividends are paid, the broker uses the cash to buy more shares, both whole and fractional shares. Automatic reinvestment lets you generate compound growth of your income automatically.
Instead of trying to time the market, using DRIPS allows investors to buy at regular intervals while increasing their dividend income along the way.
DENNIS: One final question. Not all MLPs or BDCs are equal. How do you find the good ones?
TIM: Every company is a unique business. It’s my full-time job to research and analyze high-yield investments. I follow hundreds, to pick out the best 30 or so for my Dividend Hunter recommended portfolio.
In my analysis, I focus on cash flow. It takes cash to pay dividends. I want to see stable and growing cash flow per share. I monitor results every quarter to make sure the cash flow stays on track.
I also look closely at management. While some may promote hope and hype, I look for a proven track record.
Attitudes of management and boards of directors are huge factors. It’s surprising that many companies don’t really care about sharing profits with investors in the form of stable and growing dividends. Those are not the companies I would recommend. I look for companies that are focused on paying cash to shareholders.
Thanks again for the opportunity to address your readers.
Dennis here. While “Cash is King”, inflation is public enemy #1. Investors can choose solid companies like Costco, and receive minimal dividend income, while hoping stock prices will continue to rise to all-time highs. I own many of Tim’s recommendations, enjoying good, inflation-fighting income, without losing sleep over market gyrations.
Baby Boomers are trying to protect their wealth and safe, solid dividend payers help achieve that goal.
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On The Lighter Side
I arrived back home in Phoenix on schedule. Unfortunately, Jo got some sort of food poisoning and was in no position to be flying anywhere. She and grandson Brock decided to move their trip back a week.
Last weekend the Cubs played the Cardinals in London. Friend Chuck Butler is as much a Cardinal fan as I am a Cub fan. They split the series and it was fun; although both teams were guilty of playing some poor fundamental baseball.
Congratulations to LSU on winning the collegiate national championship. My youngest son played in two Division II Championship games and it is fun/exciting and stressful; but an experience that the kids remember forever.
I hope everyone has a terrific Fourth of July holiday. I’ll be back in a couple weeks.
Quote of the Week…
“Satisfaction is not always the fulfillment of what you want; it is the realization of how blessed you are for what you have. We’ve learned not to mourn what cannot be but instead to relish what we have.”
— Suzanne C. Cole
I found some cool Benjamin Franklin Quotes:
- “Never ruin an apology with an excuse.”
- “There are three faithful friends – An old wife, an old dog and ready money.”
- “You may delay, but time will not.”
- “Laziness travels so slowly that poverty soon overtakes him.”
- “He that lies down with dogs, shall rise up with fleas.”
- “It is the first responsibility of every citizen to question authority.”
- “Well done is better than well said.”
- “Many people die at twenty-five and aren’t buried until they are seventy-five.”
- “Lost time is never found again.”
- “Dost thou love life? Then do not squander time, for that’s the stuff life is made of.”
- “You will find the key to success under the alarm clock.”
- “When you are testing to see how deep water is, never use two feet.”
- “To find out a girl’s faults, praise her to her girlfriends.”
- “Never confuse motion with action.”
And my favorite:
- “We do not stop playing because we grow old, we grow old because we stop playing.”
Until next time…
“Economic independence is the foundation of the only sort of freedom worth a damn.” – H. L. Mencken
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