Corporate Short-Term Bonds A Safe Play

If you were smart enough to have invested during the dark days of 2008's fourth quarter and 2009's first quarter congradulations. Now what? Well, one alternative is to just let it ride. The market is always forward looking and all leading economic indicators remain high. If you have a long-term plan then stick to it.

But like all markets nothing ever goes straight up or down so you may want to protect a large percentage of your gains by moving into something more conservative. And if you liquidated your stock investments during those dark days now's probable not the time to jump back in. You'd be better off hoping for another 5-8% pull back. Whatever your situation one conservative alternative to doing nothing or hiding your money under the mattress is to invest in Short-Term (no-load)Bond Funds.

Steven Huber, co-manager of the T. Rowe Price Strategic Income fund, says corporate bonds - domestic and foreign - are a good conservative investment within a improving economy and near-term ultra low interest rate enviorment.

Here's a list of some Short term: Bond Funds with the best performance in their category for the last 3 months.

My favorites for those who want no risk but seek yields above the Mutual Fund Money Market Funds (MMF) less than 1/2% yield is to just move your money to an FDIC insured US bank MMF which currently pay just over 1%. It's a pittance return but that's still a 50% increase over Mutual Fund Money Market Funds which are not FDIC insured. So, it's more yield, less risk.

Individuals with more than $3,000, willing to take a tiny bit more risk, should consider my favorite four no-load, extra conservative Bond Funds, from Vanguard:

#1)Vanguard Short Term Bond Index Fund - Investor Shares Class - VBISX
Annual Management Expense Ratio _____0.19%
Annual Portfolio Turnover _____________101%
Total Portfolio Assets ($B) _____________$10.5
Minimum Investment ____$3,000

#2) Vanguard Intermediate Term Bond Index Fund - Investor Shares Class - VBIIX
Annual Management Expense Ratio _____0.18%
Annual Portfolio Turnover _____________86%
Total Portfolio Assets ($B) _____________$3.2
Minimum Investment ____$3,000

#3) Vanguard Short Term Federal Fund - Investor Shares Class - VSGBX
Annual Management Expense Ratio _____0.19%
Annual Portfolio Turnover _____________89%
Total Portfolio Assets ($B) _____________$8.6
Minimum Investment ____$3,000

#4) Vanguard Inflation-Protected Securities Fund - Investor Shares Class - VIPSX
Annual Management Expense Ratio _____0.20%
Annual Portfolio Turnover _____________28%
Total Portfolio Assets ($B) _____________$19.3
Minimum Investment ____$3,000

#5) Vanguard Short Term Investment Grade Fund - Investor Shares Class - VFSTX
Annual Management Expense Ratio _____0.21%
Annual Portfolio Turnover _____________49%
Total Portfolio Assets ($B) _____________$20.4
Minimum Investment ____$3,000

#6) Vanguard GNMA Fund - Investor Shares Class - VFIIX
Annual Management Expense Ratio _____0.21%
Annual Portfolio Turnover _____________63%
Total Portfolio Assets ($B) _____________$32.6
Minimum Investment ____$3,000

#7) Vanguard Intermediate Term Investment Grade Fund - Investor Shares Class - VFICX
Annual Management Expense Ratio _____0.21%
Annual Portfolio Turnover _____________48%
Total Portfolio Assets ($B) _____________$9.6
Minimum Investment ____$3,000

Investment research overwhelmingly shows that lower cost fixed income funds tend to yield higher bond investing returns.
The fixed income asset market is no place for you to try to beat the market and to attempt to get higher returns by picking your own bond. Even professional fixed income asset market money managers do not beat the bond market. The higher the mutual fund company expenses, the lower the net returns to individual investors.

Why Not Long Term Treasuries Bonds Now?
If Treasuries have been such a success story, why not stick with what’s worked? Here’s why: Because they were too successful. When investors rushed into the safe arms of a U.S. government guarantee last in the fourth quarter of 2008, Treasury prices soared and yields evaporated.

Yields have been slowly rising on long-term government bonds. Between the Federal Reserve’s recession-fighting rate cuts and the panicky investors flooding the market, Treasury yields are so low that prices have nowhere to go but down. Bond prices and yields move in opposite directions which is the primary reason I'm suggesting short-term investment grade corporate bonds. “For the most part, today’s Treasury market is a place where the average investor can only lose money,” says 80-year-old Ben Jacoby, co-founder of Brinton Eaton Wealth Advisors and a veteran of the long bear market of the 1970s.

Going forward, the picture looks bleak for Uncle Sam’s bonds. To pay for the gargantuan stimulus package, the government will issue even more of them, flooding the market. “Yields will have to rise for those bonds to find buyers,” says Dan Fuss, vice chairman of fund company Loomis Sayles, and that will depress the value of existing bonds. Now that investors may have regained their appetite for stocks, it’s entirely possible that they’ll dump bonds, further driving up supply. Another threat to bond values is inflation, which, by reducing the future value of bond yields, also puts downward pressure on prices.

You might think that if the stimulus spending proves inflationary, you should take a look at Treasury inflation-protected securities, or TIPS. But those have low yields too, and Fuss isn’t upbeat about their prospects. “It will be a while before there is any inflation to protect yourself from,” he notes. Still, everyone agrees as the economy continues to improve inflation will return. The price of Oil has already doubled from 2008's fourth quarter low.

Market Making You Nervous Nelly?

In 2009 the USA market had the greatest nine month advance since the 1930's. Now what are you planning to do with your money in 2010? Do you feel like nervous Nelly?

No faith in the stock market, short-term outlook? Worried our government's monetary policy will lead to rapid inflation that will reduce the value of your high grade corporate bonds? No interest in investing in tax-free muni-bonds, because of the rising financial problems within states? Not ready to lock-in your money for 5 years in a CD paying a whopping 2.0%? Tired of sitting safe and liquid inside a stable Money Market Mutual Fund paying a ridiculously low 1/4%?

If you've answered YES, it's time to consider investing in some blue chip dividend paying stocks.

When your money earned 5.5% in safe FDIC insured bank accounts owning a stock paying 2.5% sounded unappealing. But today it's a whole different financial ball game. And you need to wake up and smell the dividends.

These companies recently raised dividend distributions, a sign of positive business outlooks.

AT&T (T), which is one of the top telecommunications companies in the US, increased its quarterly dividend by 2.40% to 42 cents per share. AT&T has increased its quarterly dividend in each of the past twenty-six consecutive years. The stock currently yields 6.00%. (analysis)

“Our 26th consecutive annual dividend increase underscores the Board’s continued commitment to stockholders and confidence in our strong financial position,” said Randall Stephenson, AT&T chairman and chief executive officer."

This was the slowest dividend increase for the telecom company in 8 years. The company already has a very high payout ratio of 83%, which leaves little room for further dividend increases, without a substantial increase in earnings per share. Still a steady rise in smart phones and iPhones sales (with consumers buying more expensive wireless internet connect services) should more than off-set landline sales declines. Verizon (VZ) which I own, is a similar investment play.

Pfizer Inc. (PFE), which engages in the discovery, development, manufacture, and marketing of prescription medicines for humans and animals worldwide, increased its quarterly dividend by 12.5% to 18 cents per share. The stock currently yields 3.90%. The company cut its dividend in early 2009 after announcing its intent to acquire rival Wyeth in a 68 billion deal. Although the dividend appears to be well covered today, the business model which had previously allowed Pfizer to raise dividends for 41 years appears to be broken. Over the past decade the company has acquired new drugs through acquiring rivals and not organically through R&D. Without solid underlying strength in fundamentals, which would propel future earnings growth, the possibility for a long-term sustained dividend growth is low.

Dominion Resources (D), which engages in the generation, transmission, and distribution of electricity. The company generates electricity through coal, nuclear, gas, and oil resources, increased its quarterly dividend by 4.60% to 45.75 cents per share. This is the seventh consecutive year in which Dominion Resources has raised its quarterly dividend. Dominion Resources (D) does look like an interesting utility company, with one of the lowest payout ratios in the industry plus some solid earnings and dividend growth. The only issue is that the company does not have a long history of raising distributions. The stock currently yields 4.50%.

Hatteras Financial Corp (HTS) invests in adjustable-rate and hybrid adjustable-rate single-family residential mortgage pass-through securities guaranteed or issued by the United States Government agency, or by the United States Government-sponsored entity. The company announced its fourth consecutive distribution increase to $1.20/share. The new dividend is 4.3% higher than its Q3 dividend, and 20% higher than the distribution from this time last year. The stock currently yields 15.80%. While the yield might be tempting it is important to understand that the company makes money by borrowing money using short-term rates and then investing it in long-term government agency bonds, while earning a return in the process. This exposes the company to fluctuations in interest rates. If the FED starts raising rates in 2010, companies like HTS might be negatively affected in the process.

Waste Management, Inc. (WM), which offers collection, transfer, recycling, disposal, and waste-to-energy services, increased its quarterly dividend by 8.60% to 31.5 cents per share. This marks the sixth consecutive year that the Company has increased its quarterly dividend. The stock currently yields 3.50%.

BCE Inc. (BCE), which provides a suite of communication services to residential and business customers in Canada, increased its quarterly dividend by 7% to 43.5 cents per share. This is BCE's third increase to the annual common share dividend since the termination of its proposed privatization agreement in December 2008. The stock currently yields 5.90%.

General Mills (GIS), which engages in the manufacture and marketing of branded consumer foods worldwide, increased its quarterly dividend by 4.2% to 49 cents per share. General Mills has increased its quarterly dividend in each of the past six consecutive years. The stock currently yields 2.80%.

This is just a small list of possibilities. I'll share with you in a future blog a list of blue chips many consider the Best-of-Breed.

Remember, I advise low net worth investors, to consider the benefits of a diversified Mutual Fund Portfolio as a safer alternative to putting all your financial eggs into a couple of stocks. The odds of us picking the next GOOGLE or APPLE stock are slim.

Financial Disclosure: On 3/11/2010 of the stocks discussed within this article I held positions in Version and Pfizer

The Mutual Fund Money Market Fund Dilemma

$3.5 Trillion dollars earning almost zero.

In my comparison to the 1981 economy I noted how savers were paid to save not spend. The dilemma for today's savers is what to do with over $3.5 trillion dollars earning almost zero sitting inside Money Market Mutual Funds. In 1981 you could have locked in a 5 year CD earning 12%. Today you would be lucky to get 3.4%. This is just another reason contributing to the 55% rise (with only small temporary pull backs) in the American stock market since its march lows. Now that the major 10% pull back you were waiting for never came what do you do? Now you feel it's just too risky moving into the stocks that have risen the most.

What to do now is the dilemma. Here are some possible options cautious conservative investors can consider. These options were researched by Glenn Rogers a longtime contributor for BuildingWealth.ca and Seekingalpha.com.
Dividend ETFs

There are some relatively low-risk ETFs where you could park some money while we see how all this plays out. For example, take a look at these three funds, all of which are designed to track baskets of U.S. companies that offer respectable dividends.

The three are the iShares Dow Jones Select Dividend Index (NYSE: DVY), the Vanguard Dividend Appreciation ETF (NYSE: VIG), and the Power Shares High Yield Dividend and Equity Achievers (NYSE: PEY). Although all three of these ETFs have the same general goal, it's somewhat surprising to find that their performance has varied greatly. At the time of writing, DVY was down 12% year-to-date, VIG was flat, and PEY was down almost 20%. So, interestingly, these issues have not participated in the market rally so far, which may make them have much less down side risk if a 10% market correction does come in October.

Take a look at the holdings of these three baskets you'll notice some fairly dramatic differences. PEY is made up of the 50 highest yielding companies with at least 10 years of consecutive dividend increases. DVY is composed of companies that have provided relatively high dividend yields on a consistent basis over time while VIG looks a lot like the Dow Jones 30 Industrials to me.

Currently, PEY has a trailing 12-month yield of 5.3%, based on last Friday's closing price of $7.45. However, I should note that the monthly payments have dropped off significantly this year and I would expect the yield will be lower over the next 12 months. This ETF has the most diverse collection of holdings among the three, split between industrials, materials, utilities, telecommunications, and a few healthcare, media, and consumer goods stocks. About 40% of the fund is in the financial services sector. The portfolio emphasis is weighted heavily towards small to mid-cap companies, which explains why this fund fared worse than the other two in the market meltdown. However, it also appears to have more upside potential if the rally continues. The Management Expense Ratio (MER) is 0.59%.

The iShares ETF (DVY) has 101 positions and is a mix of large, medium, and smaller companies. Some names in the portfolio are immediately recognizable such as Kimberly-Clark, Chevron, and Dow Chemical. Others will only be known to dedicated stock-watchers, Watsco Inc., PPG Industries, and Scana Corp. among them. Distributions are paid quarterly and the last two have been about 39c a share (figures in U.S. currency). The trailing 12-month payout totalled $1.79 which would translate into a yield of 4.4% based on Friday's closing price of $40.78. But based on the payouts for the last two quarters, I suggest it is more realistic to expect distributions in the $1.60 range over the next year for a projected yield of 3.9%. The MER is 0.4%.

The Vanguard ETF (VIG) is the most conservative play. It is designed to track the Dividend Achievers Select Index, which is administered exclusively for Vanguard by Mergent, Inc. There are 186 securities in the portfolio with a focus on large-cap stocks. Top holdings include Wells Fargo, IBM, Coca-Cola, PepsiCo, Wal-Mart, and Johnson & Johnson. As I said, it looks a lot like the Dow 30 Industrials, only bigger. It pays quarterly distributions which have recently been running at about 23c a unit. The trailing 12-month payout is 99.5c for a yield of 2.26% based on Friday's closing price of $43.99. My yield projection for the next year is around 2%. The MER is a very low 0.24%.

Bank of America preferreds

If you are looking for higher yields and are prepared to take more risk, consider the preferred shares of Bank of America. They were downgraded to junk status last winter amid fears that BoA might not survive, however Moody's announced last month that it is reviewing their B3 rating with a view to a possible upgrade now that the company is profitable again.

The Series J issue, which trades on the NYSE under the symbol BAC.PR.J. This is a fixed-rate, non-cumulative preferred that pays a 7.25% dividend based on its issue price of $25. That works out to $1.81 a year so based on Friday's closing price of $21.50 the yield is 8.4%.

These preferreds traded for as little as $4.02 last February at the height of the credit crunch and the U.S. banking crisis. Obviously, they have recovered strongly since then as confidence in the banking system was restored by the massive U.S. government bail-out. The high yield indicates there is still some concern about BoA's future, but at this stage I think the company is recovering well and that the dividend is safe. There is also some capital gains potential here. The preferreds are not callable until Nov. 1, 2012.

Naturally holding only one bank preferred stock is more risky than a basket of dividend paying stocks so this is for more aggressive investors looking for more yield. However, note that they are very thinly traded so enter a limit order.

PowerShares Financial Preferred Portfolio

If you prefer more diversification, consider the PowerShares Financial Preferred Portfolio (NYSE: PGF) currently trading at $16. It is based on the Wachovia Hybrid & Preferred Securities Financial Index, which tracks the performance of about 30 U.S. listed preferred shares issued by financial institutions. At least 90% of the assets are normally invested in these securities.

As you are aware, the U.S. financial sector has gone through an extremely rough period and it is not clear that the full extent of the damage is known even yet. As a result, preferreds issued by the banks, insurers, etc. have been beaten down in price and are offering unusually high yields. The situation is not dissimilar to the one we saw in Canada late last year, except it is more extreme in the U.S.

This has resulted in preferred share yields that have never been seen before and may never be seen again. Currently, this ETF is paying monthly distributions of 11c to 12c a unit. Projecting this forward for 12 months, using the 11c figure, we could be looking at a cash yield of 8.25% based on last Friday's closing price of $16. But a word of caution: the distributions are not eligible for the Canadian dividend tax credit and will be subject to a 15% withholding tax if paid into a non-registered account in Canada. (The same holds for the BoA preferreds.)

PGF units dropped all the way to $5.16 but have since rallied strongly. However, they are still well below their 2006 issue price of $25 and I believe there is upside potential here in addition to the handsome payout. Top holdings include preferreds from Bank of America, Wells Fargo, Barclays, and JPMorgan Chase. About 69% of the assets are rated BBB or better by Standard & Poor's. The MER is 0.74%. This is my top pick for this month and we are adding it to the IWB Recommended List.

All the above are fairly defensive plays given the uncertain market we are likely to have over the next few weeks. Generally, I think the trend will continue higher after a correction, but it is wise to protect yourself on the downside, play a little defense, and add some more yield your portfolio. So hold your breath for the next few weeks. It's going to be an interesting October.

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