FISCAL FITNESS

MICHAEL J. DONNELLAN M3 Wealth Management

LOW INTEREST RATES AND THE SEARCH FOR YIELD

Low yields have made income tough to come by in recent years, and they have sent investors searching for yield and income wherever they can find it.

The Federal Reserve lowered the federal funds rate level to near zero in mid-March of this year, affecting interest rates. When thinking about the effect that low interest rates have on investments, the impacts are mixed. Fixed-income investors dislike low interest rates because returns on bonds, certificates of deposit and savings accounts are low. But businesses, home buyers and the stock market prefer low interest rates. With lower borrowing costs, companies can grow and expand more quickly leading to greater profits. Savvy investors understand that a diversified investment portfolio will typically include bond investments, but given the low interest rate environment, they may not be as attractive right now.

Here are a few ways for you to increase your returns and counteract the effect of low interest rates that depress returns on fixed assets.

Investors have been challenged to find yield for over a decade The financial crisis starting in 2008 depressed yields and now the pandemic in 2020 crushed them again. continued on page 16

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Federal Reserve officials signaled plans to keep interest rates near zero for years and said they were studying how to provide more support to a U.S. economy battered by the coronavirus and related shutdowns.

High yield bonds may be a good option within a portion of your fixed income portfolio, but of course have higher default risk.

An investor could sit on the sideline and wait for yields to rise, but that is not a smart strategy. Perhaps a laddered approach could help.

A bond ladder is a portfolio of individual bonds that mature on different dates. Picture a ladder with several rungs and spacing between the rungs. The individual bonds are the rungs and the time between maturities is the spacing between the rungs. By spacing out the maturities of the various bonds, investors don’t get locked into one interest rate.

Scenarios illustrated are hypothetical in nature, results may vary. Investing is subject to risk which may involve loss of principal. Past performance is not indicative of future results. A bond ladder can help take the guesswork out of investing because it helps investors manage whatever interest-rate environment arises. If yields rise, the maturing bonds can be reinvested at those higher yields. If yields fall, maturing bonds will unfortunately be reinvested into lower-yielding bonds, but the existing bonds will still provide the higher yields that were initially locked in.

You might have heard the saying “time in the market is more important than timing the market.” A bond ladder—and a disciplined approach to keeping it intact—can help investors stay invested through whatever interest environment arises.

Investors should also look to broaden their search for income beyond bonds. Perhaps a greater emphasis on dividend-paying stocks, with an important caveat: Focus on dividend growth rather than just the dividend yield. Many sectors offering high yields are the most vulnerable to a rise in rates. Instead, yield-hungry investors could even find some good dividends in technology and healthcare offering rising dividends.

Some investors look for companies that have increased dividends for 25 or 50 years. Most of those are modest increases though.

It’s not a big deal to increase your dividend from 40 cents per quarter to 41 cents.

Others look for big dividend yields. That could also be a red flag. The company may be paying out too much of their cash flow and sacrificing growth. Or the stock has been hit and the dividend could be in jeopardy.

I prefer to invest in companies that have increased their dividends each of the last five years and increased them substantially. There are companies that have more than doubled their dividend while growing revenues and earnings.

Investors shouldn’t necessarily discard bonds from a portfolio because yields are low; especially more conservative investors. Rather, they should make sure owning the right investments to better help navigate today’s challenging environment:

Consider high-quality, intermediate-term holdings for the diversification benefits they provide. Remember that waiting in cash has a cost, as income payments from higher-yielding alternatives can compound over time. Reach for yield … but cautiously. Consider adding some riskier fixed asset classes as long as any allocation is in line with your risk tolerance. Consider bond ladders to help take the guesswork out of investing and to stay invested.

Every investor has different goals and strategies. I believe it is important for the investor and their advisor to develop rules and strategies to help increase profits and reduce risk. Talk to your financial professionals and tax advisors to determine your specific needs and goals.

The M3 Wealth Management Office does not provide legal or tax advice. Consult an attorney or tax professional regarding your specific situation. The information herein is general and educational in nature and should not be considered legal or tax advice.

Michael J. Donnellan specializes in stock selection and retirement planning. Feel free to contact him with any questions or comments at the M3 Wealth Management office at 17601 W. 130th Street – Suite 1 in North Royalton, Ohio. Phone: (440) 652-6370 Email: donnellan@m3wealthmanagement.com

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