Hiya VettaFi Voices! On Friday we’re hosting the Income Strategy Symposium, so keeping in the spirit of that event, I wanted to know: Where you see the best places to find income in the markets today?
Todd Rosenbluth, VettaFi Director of Research: I’m excited for the Income Strategy Symposium. We will be covering traditional fixed income ETFs and mutual funds (yes, mutual funds too). We will talk about whether taking on credit risk is rewarding. Whether municipal bonds are appealing vs Treasuries. Whether active management makes sense.
As has been said before: There’s income in fixed income. There’s also lots of income in equity-based strategies and others. We will talk at the symposium about options-based ETFs like the Amplify CWP Enhanced Dividend Income ETF (DIVO), the KraneShares China Internet and Covered Call Strategy ETF (KLIP), the Parametric Equity Premium Income ETF (PAPI), and the NEOS S&P 500 High Income ETF (SPYI) with Amplify, Kraneshares, Morgan Stanley, NEOS, and the latest ETF provider of these, Goldman Sachs.
On Thursday, they launched Goldman Sachs S&P 500 Core Premium Income ETF (GPIX) and Goldman Sachs Nasdaq-100 Core Premium Income ETF (GPIQ). I wrote about them and some of the others recently. They offer compelling yield without taking on credit or interest rate risk and in a tax-efficient manner. They offer a blend of capital appreciation potential with consistent income generation through options.
Beyond Fixed Income & Options Strategies
But I know we should cover other income sources. There’s sector-focused MLPs and energy- or materials-based dividend ETFs; there’s sector diversified dividend ETFs; there’s closed-end fund ETFs, preferreds, etc. I can’t wait for my colleagues that have more expertise to chime in. Stacey Morris? Roxanna Islam Swan?
The covered call ETF universe has gained traction in 2022 and 2023 with the JPMorgan Equity Premium Income ETF (JEPI) being the most popular. Active management in a more risk controlled manner is important to advisors.
Stacey Morris, VettaFi head of energy research: Income is certainly easier to find in the current environment, but rising rates have also been a headwind for performance for many traditional income-oriented investments. MLPs stand out among other equity income investments for yields that are still above corporate bonds and outperformance relative to the S&P 500.
As of October 25, the Alerian MLP Infrastructure Index (AMZI) was up 20.9% this year on a total-return basis. At the same time, the index was yielding 7.8%. AMZI is the underlying index for the Alerian MLP ETF (AMLP) and the ETRACS Alerian MLP Infrastructure Index ETN (MLPB). MLPs have not been negatively impacted by rising rates. Importantly, MLPs are generating free cash flow and growing their payouts.
Rosenbluth: MLP ETFs like AMLP and the Global X MLP & Energy Infrastructure ETF (MLPX) are also different than broader energy ETFs like the Energy Select Sector SPDR Fund (XLE). They’re more income focused.
The Amplify Natural Resources Dividend Income ETF (NDIV) is the natural resources dividend ETF I was referring to earlier. It has 80% of its portfolio in energy stocks, but there are chemicals and metals companies inside too.
Natural Resources ETF’s Holdings
Morris: NDIV holds some of the large midstream names in the US and Canada. And within energy, it holds domestic and global producers. Its underlying index is weighted by indicated dividend yield, resulting in attractive income. The global exposure, dividend-weighting scheme (higher yield), and smaller weightings for Chevron Corp. (CVX) and ExxonMobil (XOM) are key differentiators relative to broad energy ETFs like XLE.
Energy is a great place to look for income given that many companies are focused on generating free cash flow and returning cash to shareholders through dividends and buybacks.
Rosenbluth: Most high dividend ETFs like Vanguard High Dividend Yield Index ETF (VYM) and SPDR Portfolio S&P 500 High Dividend ETF (SPYD) have hefty stakes in financials and consumer staples stocks — maybe real estate but much less materials exposure. If you want sector diversification there’s ETFs for that. But if you want targeted sector exposure with stock level diversification you have choices.
Heather Bell, VettaFi managing editor: I’ve been most curious about the options-based strategies. They really seem to be drawing investor interest, largely because of JEPI, in my opinion. That’s fascinating, not least because I think the average person doesn’t fully understand how options work and simpler cap-weighted ETFs have attracted the most interest historically.
But also, all options strategies are not the same. If you look at JEPI, SPYI, DIVO and the Global X S&P 500 Covered Call ETF (XYLD), for example, they all draw from the S&P 500 universe, but they offer different options plays and as a result have very different performance from each other.
But they’re all offering dividends between 5% and 13%.
Different Options Approaches to Income
Rosenbluth: I’m not going to dive deep into each one of these, but yes they hold options differently and the equity exposure is different. DIVO is highly concentrated at the stock level and only owns dividend payers. JEPI is also actively managed at stock level but more diversified.
SPYI and XYLD take a broader market approach usually replicating the S&P 500. They enhance the income in a tax-managed manner with the options. And, yes, I plan to learn more about how they can help fit in client portfolios during the Income Symposium
Jane Edmondson, VettaFi head of thematic strategy: There are a growing number of fixed income strategies as well as strategies utilizing options to hedge duration and interest rate risk. The Simplify Interest Rate Hedge ETF (PFIX) is one example, and CBOE Vest just launched an ETF is February called the Cboe Vest 10 Year Interest Rate Hedge ETF (RYSE), which uses swaptions to create a defined outcome rate and duration hedged 10-year bond solution.
Roxanna Islam Swan, VettaFi associate director of research: Ultra-short government bond ETFs like the SPDR Bloomberg 1-3 Month T-Bill ETF (BIL) have been popular. It’s really easy to find yield there (4.5%) with relatively little risk. From an equities perspective, I think we’ll see some of the dividend sectors go back into favor like consumer staples which is trading relatively cheaply (here’s a short note I did).
The Problem With Higher Rates
But Stacey is right that the higher rates have been negatively affecting some of the other income-oriented investments. I’ve been looking at the closed-end fund space a lot lately. Returns have been suffering due to higher rates (most CEFs use leverage to enhance returns).
Fortunately, yields have remained relatively resilient in the space. The hope is that you would pick CEFs (or an ETF of CEFs) that would be able to withstand a downturn and maintain dividends, while rebuilding capital in the future. This is a space that can pay in the high single-digit/low double-digit range. It is typically used for a stable income stream rather than total return appreciation.
Bell: Jane, you recently wrote about the GraniteShares HIPS US High Income ETF (HIPS), which invests in CEFs, REITs, MLPs, and BDCs. It’s got an annual dividend yield of 11%. Pass-through securities are a great income source from what I can tell.
Edmondson: Yes, Heather. It’s equally weighted among those alternative asset classes which provides diversification benefits and an uncorrelated source of alternative income.
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