Historically, fixed income investors have been able to generate a healthy income stream from high quality bonds. However, given the current environment of ultra-low yields, income has been harder and harder to come by. With the Fed poised to cut rates again this year, that dynamic is even more relevant.
RSo, what does it mean for investors when coupons from fixed income are already low and falling? It does not imply that we abandon fixed income altogether—quite the contrary. Even at low rates, high quality duration can still provide portfolio protection in uncertain times.
However, it does suggest we need to be creative about how we cobble together diverse and sustainable income streams for our clients. This can include considering equity sectors which garner a healthy portion of their total returns from dividends, such as financials and energy.
As highlighted in the chart, we show that the U.S. 10-year yield closely tracks the relative performance of high dividend stocks over growth stocks. Unsurprisingly, when the U.S. 10-year yield is falling, the income paid on high dividend-yielding companies becomes more attractive, leading to outperformance against their growth counterparts. Indeed, a yield of 4.51% on the S&P 500 High Dividend index is higher than the yield on BAA corporate bonds, global bonds , and most international stocks. In an environment in which low interest rates are likely to persist, investors seeking income should consider high dividend paying companies given that they provide stable income without sacrificing much capital appreciation.
Diversifying income streams are challenging
Source: FactSet, Reuters, J.P. Morgan Asset Management.