RNP - 2 Must-Own Dividend Stocks For Your Retirement

2024-01-10 07:35:00 ET

Summary

• I was introduced to the market at an early age by a popular Canadian board game.
• Retirement planning can feel like a dice-rolling adventure, but you can't leave your finances to chance.
• You can leverage portfolio managers to see outstanding income.

Co-authored by Treading Softly.

A highly popular game in Canada that people like to play but is no longer in print, is the game called Stock Ticker . This board game has become an annual tradition with my family, playing it on Christmas Eve, Christmas Day, and, at times, even on Boxing Day. The entire point of the game is to walk away with the most money. There are six different investments that you can invest in, and via dice roll, which can rise, fall, or pay dividends. You start with $5000, and at the end of the game, see how much money you have to determine the winner. This year, at the end of the game, after only playing for 6 hours over two different days, I turned my $5000 into over $55,000 worth of value. It would be nice if this were truly possible all the time so that after six hours of work, you could generate a $50,000 return on a $5000 investment.

Among the listed available investments were gold, silver, oil, and grain. I was quick to point out to my family - being the buzzkill that I am - that these are all commodities and wouldn't have the ability to pay a cash dividend directly.

When it comes to the market, that's where you can benefit from having something called a closed-end fund, or CEF. These are funds that exist to help generate more income from asset classes that may not pay a lot or allow you to leverage the benefit of a skilled portfolio manager. This gives you the ability to step away from the board game and step into the market and earn great income.

Today, I want to look at two funds that I think are worth holding in every retiree's portfolio.

Let's dive in!

Pick #1: BTO - Yield 8.4%

John Hancock Financial Opportunities Fund ( BTO ) is a CEF that invests in banks. In early 2023, the failure of Silicon Valley Bank (SIVBQ), followed closely by the FDIC shutting down Signature Bank (SBNY), set off fears of another Great Financial Crisis.

In a Market Outlook available to subscribers, I outlined why I did not believe the banking crisis in March 2023 was comparable to those we saw during the GFC. In a public article , we discussed BTO in particular, noting that BTO did not have exposure to the banks that failed:

"Banks sold off heavily on Friday, March 10th, and BTO was down 5.6% (plus another 2% because it was ex-div). As I outlined to our subscribers, I do not see that what happened at SI and SIVB as a systematic risk throughout the banking sector. On average, banks are very strong and are in a far superior financial position than they were during the GFC.

The reality is that when you are dealing with "averages," there will be some holdings that are below average. Even when a sector is strong, there will always be some outliers that will fail. We are encouraged that BTO avoided two banks that turned out to be much weaker than average. While others are dumping all the good banks, we are happy to increase our exposure to the sector through BTO."

The market disagreed with our assessment; banks sold off heavily, and BTO sold off along with them. BTO bottomed out around $23 in May and then dipped back to similar lows in October. A couple of quarters of earnings later, it is increasingly obvious that banks have stabilized. The end of the Fed's hiking cycle has served as a catalyst for the prices of bank stocks.

As we look at bank failures in 2023, we can see that in terms of the number of bank failures, it isn't particularly high. With five banks failing in 2023, the number of banks that failed was average relative to 2015 through 2019. What was significant was the size of the assets involved, and that is primarily due to Silicon Valley Bank, which was the second largest bank failure in history behind Washington Mutual. Source .

At this point, it is safe to say that we were "right" that the bank failures in March were not the beginning of a systemic problem that would result in dozens of bank failures. However, in the stock market, being "right" doesn't mean that you will be immediately rewarded.

After that article was published, BTO went down, back up, back down, and is on another rally up. It is trading at roughly the same price as it was in March.

The fact that banks weren't going to fail was not as important to the short-term price movements as the market's belief that banks might fail. Through the dips, we continued to identify BTO as a great buying opportunity.

As a long-term investor, I don't attempt to trade in and out of short-term patterns. They are difficult to predict and extremely hard to stay ahead of. One benefit of being an income investor is that I don't have to worry about timing the market. I buy shares at a yield I am happy with and allocate at least 25% of my income to reinvest. When I have a position like BTO, where I have a strong conviction that the environment isn't as bad as the market fears, I can use a portion of my income to buy the dip. It is hard to predict exactly when the market will realize things aren't as bad as people feared, but as an income investor, time is your friend.

So, have you missed the buying opportunity? No. You see, in March, BTO was trading at a large premium to net asset value. Today, BTO is trading very close to NAV. The premium has closed by NAV rising.

With banks continuing to recover from the 2023 scare, BTO is positioned to continue seeing rising NAV, and the share price is likely to follow. As my dividends come in, a portion of them will continue to be reinvested in BTO.

Pick #2: RNP - Yield 7.8%

Cohen & Steers REIT & Preferred Income Fund ( RNP ) is a CEF that has a bifurcated portfolio. Roughly half of its portfolio is invested in real estate investment trusts or REITs. The other half is invested in preferred equity, primarily in banks and insurance companies.

This provides a combination of assets that don't have a strong correlation. If we compare a REIT ETF like Vanguard Real Estate Index Fund ETF Shares ( VNQ ) to a preferred share ETF like iShares Preferred and Income Securities ( PFF ) using Portfolio Visualizer, we can see that they have a low correlation at 0.59. Source .

However, even relatively uncorrelated investments can sometimes be impacted similarly by the same macro conditions. Over the past two years, rising interest rates have put negative pressure on a diverse array of investments. REITs, banks, and preferred equity all fall into categories that have seen negative pricing pressure from rising interest rates.

Looking forward, REITs are likely to regain favor among investors as interest rates stabilize, especially if they decline. While REIT prices have compressed, their funds from operations, or FFO, have been rising. Source .

The largest concern that some have had with REITs is the impact of refinancing debt with Treasury rates so high. That fear is diminishing as the outlook for lower rates becomes more certain.

For its part, RNP tends to focus on REITs with very strong balance sheets. Source .

On the preferred side of the portfolio, the impact of rates is more direct. Preferred shares are "fixed-income" investments, where the income an investment provides is predetermined. As a result, they compete directly with other fixed-income investments. If an investor can get a 4%+ yield from US Treasuries (US10Y), they are less likely to be interested in buying a preferred at a 4% yield from a corporation. Even a very low-risk company is going to be a higher risk than the US Government. As a result, prices for all fixed-income investments declined, as they had to compete with the low/zero credit risk options that were paying more than they had for decades.

RNP's preferred portfolio is primarily invested in banking preferred – positions that were pressured from the fallout of bank failures in March, in addition to the natural price pressures from rising interest rates.

Yet these pressures are all reversing. The Fed has indicated it intends to pivot sometime in 2024, and the market is betting that it could occur as soon as January. Interest rates will transition from a headwind to prices, to a tailwind.

Meanwhile, the fear over the banking system has been subsiding. Even the specific banks that were considered at risk in March 2023 have been recovering.

RNP is positioned to be a significant winner if these trends continue.

Conclusion

With BTO and RNP, we can leverage skilled portfolio managers to earn strong income from various sectors – REITs and Banking. Both sectors have strong outlooks for 2024 and also the ability of these portfolios to provide strong income for decades to come. One benefit of involving yourself in the real market versus a board game is that you're not dependent on the dice roll of others. The drawback, however, is that you're dependent on the emotions of others dealing with real money instead of gambling monopoly money.

In retirement, it's essential to have the money you need to pay your bills. For so many retirees, they find themselves having to play the game of whether to do what they love or to be able to afford what they need. So, often they sacrifice their hobbies and their interests simply to be able to pay for the heating bill or to be able to put food on the table. There's a big difference in your quality of life when you're stuck on a fixed income that barely covers your daily needs and you can't work a little overtime to be able to generate additional income. The last thing I want for retirees who involve themselves in their retirement planning is to have to go back to work if they don't want to. That's why I created the Income Method to produce as much income as possible from the market for every individual. It can help you have true financial security.

That's the beauty of my Income Method. That's the beauty of income investing.

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