Though many income-generating investments, like Treasuries, municipal bonds, and dividend-yielding stocks, have posted strong relative returns over the past year, interest rates on high-quality bonds are at historic lows, and the valuations on dividend-producing stocks are at historic highs.
To help investors and planners consider new ways to combine income and total return potential, Fidelity recently gathered several veteran fund managers to discuss this theme. Among the experts’ ideas on generating income and protecting against inflation are: Asian dividend-yielding stocks, Latin American sovereign debt, convertibles and real estate investment trusts (or REITs).
Joanna Bewick of Fidelity Investments urged investors to “be selective if you move out the risk spectrum.” She notes that two long-term secular shifts are combining to force investors away from both ends of the risk spectrum and toward the middle.
The first trend, Bewick says, is that central banks across the world are buying government debt and keeping interest rates low. “This is crowding private investors out of the Treasury market and pushing them further out on the risk spectrum, toward investments like corporate and high-yield bonds,” she explained.
The second trend is that the two major bear markets in the past 10 years have left investors cautious and looking for lower-volatility options. “An investor who might previously have invested in a growth equity portfolio might now want a more defensive income-equity portfolio,” she concluded.
With the markets “awash in liquidity,” Bewick foresees a less than 10% risk of recession in the United States in the next three months. For 2012, she believes select risk assets can outperform riskless assets such as Treasuries; still, “the best returns for the year may be behind us,” Bewick explains.
The Fidelity expert remains bullish on high-yield bonds and convertible bonds. As for REITs, they also look good in the current market environment, she says. “By law, REITs are required to distribute 90% or more of their profits to shareholders in the form of dividends, and their cash flows have been strong,” Bewick stated. Plus, there’s potential for increasing dividend yields.