Equity Portfolio yielding over 10%

I was recently asked by my firm to write an article for an industry publication. I post it here for your reading pleasure (or as a sleep aide, you decide), thankfully I was limited to 600 words:

A value portfolio that yields over 10%??!!

For the last several years, investors looking for yield in traditional places, namely bank accounts and bonds, were coming up short. In a world of essentially very low if not zero percent risk free returns, traditional sources of income, well, no longer have income. In fact, many countries sport negative interest rates for the first time in history. Over $12 Trillion of sovereign debt has a negative yield. The USA has by far the highest yield (in a large market). The current yield of 2 year treasury debt is 1.5%. Savings accounts, money market funds and highly rated corporate bonds have yields that are only slightly higher, and the Fed is largely predicted to lower rates further. Even junk bonds, the riskiest of fixed income investments, have been bid up to the point where they yield only 5-6%, a return once available from US Treasury markets. Preferred stock ETFs have similar yields.

Given these facts, one might think that income producing equities should have also traded higher to the point where the yield has been reduced. Certainly, some income equity groups like utilities have had good runs with gains near 50% over the last 4 years. They now yield approximately 3%. REITs (Real Estate Investment Trusts) have soared as well. However, there still remain over 300 securities, listed in the US, with market caps exceeding $100M that yield 5% or more. Further, of these, 190 yield 7% or higher, and 90—10% or more. This list grows somewhat if we lower the market cap limitation to $50M (5% 334, 7% 209, 10% 99). Obviously, there is some murkiness and risk aplenty in this netherworld of the stock market. In fact it has become an unwritten rule that sky-high yields are usually a harbinger of bad news. However, where there is uncertainty; there is opportunity. By deploying years of experience, diligent research and a thorough understanding of the securities with these high yields, we have constructed a very rewarding portfolio. We would also argue that the risks in a fixed income portfolio today, where even a slight of increase in rates will lead to sizeable mark to market losses, are as great if not greater.

Over the last 10 years, which equates to most of the “low interest rate” era, our portfolio deploying this strategy has achieved returns in excess of 9%, primarily from dividend income. In order to attempt to avoid the risks inherent in many of these names, we have followed a few guidelines. First, we only buy securities that are currently earning (or depending on the industry) cash flowing their dividends. We avoid “return of capital” situations. Second, we spread our picks around. We have over 50 holdings in roughly 10 sub- industry groups. Third, we try to only own names that are trading at a discount to book, net asset value or their private market asset value. These metrics vary by industry. Finally, not always possible but more frequent than one would imagine, we gravitate towards stocks with current insider buying.

Our digging has found many great deals in high yielding equities. Two of our favorite areas right now are Business Development Companies and Master Limited Partnerships. Both industries have many names trading at close to NAV and covering their payouts.