Why These “Boring” Stocks MUST Have A Place In Your Portfolio…
We receive dozens of emails full of great investing questions from our readers every day. And each expert for every one of our premium newsletters strives to answer as many of them personally as possible.
A few years ago, we got a question that still sticks with me to this day. I’ll share the question with you today, along with our response, because it says a lot about expectations vs. reality when it comes to dividend payers.
Q: I signed up for your newsletter looking for high-yielders. Why is one of your “buy first” picks a utility fund? — Josh, Boise, Idaho
First off, I want to cut Josh a little slack here. It’s a common mistake for investors to assume that they’ll only get the best returns from risky “high-growth” equities or high-yielders.
But according to Ned Davis Research, more than half of the market’s total return since 1926 comes from dividends.
What’s more, you don’t need to reach for yield. In fact, Dr. Kenneth French, a respected market thinker and economist, found that the best performing high-yielders are those that are in a dividend yield “sweet spot.” In academic terms, his study took all of the market’s dividend payers and divided them up into five equal groups based on yield. The highest long-term performers were the second-highest quintile. (And they blow non-dividend payers out of the water.)
This means the best performers pay above-average yields — but not so high that they can’t afford to keep paying them. It’s these “sweet-spot” yielders that you want to focus on with your income picks.
Now here’s how where that utility fund the reader was asking about comes into play…
One Of The Best Utilities Funds On The Market
The fund in question is the Reaves Utility Income Fund (NYSE: UTG).
We recommended this fund after developing a real appreciation for the cash-rich utility sector. And the truth is, by this point, I consider utilities an essential part of any income portfolio.
We all know that utilities are less sensitive to the economic climate than most sectors. That is doubly true today if you think about it… in a Covid-19 world where “essential services” has become a buzzword, you can’t get more essential than electricity, water, gas, and so forth.
This “essential” nature also means that most utilities have a sort of monopoly in their service areas. This gives these companies a bundle of cash flow each and every month. And the Reaves Utility Income Fund’s (NYSE: UTG) smart management team invests in some of the richest dividend-paying utilities out there.
UTG has an experienced and talented pool of analysts looking for the best opportunities this sector has to offer. The top five holdings as of the last reporting period include NextEra, Union Pacific, BCE, Verizon, and WEC Energy. These holdings alone account for a little over a quarter of the fund’s holdings.
Launched in February 2004, UTG has been navigating this sector for 16 years. And the results speak for themselves. To achieve its above-average yield, the fund leverages about 23% of its assets. In other words, it borrows additional money at relatively low interest rates and then reinvests those proceeds in higher-dividend-paying stocks, pocketing the difference.
This tactic does add an element of risk, but it works out in investors’ favor under most conditions. Thanks to leverage, the portfolio is generating enough dividend and interest income to make monthly distributions of $0.18 per share, or $2.16 annually – for a yield of about 6.7%. That distribution started out at $0.09, by the way…
The annual expense ratio of about 2% is higher than you would pay for an ETF. But the long-term returns of this well-managed, five-star fund (top 1% over the past 3, 5, 10 and 15-year periods) justify the cost in our opinion.
And just look at how you would have done compared to the S&P 500 over since inception:
Action To Take
I’ll admit it myself. It took years to convince me that utilities were worthy portfolio candidates. But watching UTG over the years is what finally did it for me…
The good news is that UTG still looks good today. After selling off during the coronavirus panic, the fund has recovered by about 50% — but still has ground to cover before returning to its previous levels. And if you buy today, you get that 6% yield, and there’s no reason to think those distributions can’t continue to grow as the years go by.
Any way you slice it, utilities offer a lot of benefits to investors. But to find the best utilities recommendations we have to offer, I strongly encourage you to check out our special report right here.