The U.S. stock market via the S&P 500 SPDR Trust (SPY) has experienced a few hiccups with the prospect of losing QE stimulus. However, SPY has been far more resilient than the vast majority of rate-sensitive income producers — preferred shares, munis, high yield bonds, longer-term corporates, dividend stocks, REITs, utilities as well as Treasuries. That said, by investigating the reaction of income producers to Thursday’s surge in the 10-year yield, we’re able to gauge which income ETFs might stand up to the kitchen’s heat.
The first item that stands out is the difference between real estate investment trusts via VNQ and pipeline partnerships via MLPI. The structure of partnerships as well as the structure of real estate trusts are similar in that they both exemplify tax-favored entities. REITs don’t have to pay corporate taxes as long as they distribute 90% of their income, while MLPs do not have to pay federal taxes when all earnings go to unit holders. Consequently, distributions to owners of aggregate funds/notes like VNQ and MLPI are higher than many income-producing alternatives. That said, REITs have been drastically hit by the rise in the 10-year yield, as rising mortgages hit at the heart of the real estate recovery. MLPs have been less affected by rates because the toll operators of oil and gas pipeline infrastructure still have growth potential.
The second item that merits discussion are the relative success of foreign developed market bonds. The perception of Europe is that the stimulus is intact, and that tapering is not in the near future. Whereas a number of emerging markets may not be able to stimulate due to inflation or differences in central bank goals, Europe, Japan, Australia, England are still looking to boost respective economies. Bond ETFs like IGOV and PICB are faring better than the U.S. investment grade equivalents.
Last, but hardly least, many folks have received the message on floating rate bonds and senior bank loans. The “hang-in-there” ability of FLTR and BKLN is worth noting, as extremely modest price depreciation may be offset by the enviable cash flow. [Senior Loan ETFs: ‘Steady Returns and Higher Yields’]
Gary Gordon is president of Pacific Park Financial, Inc.