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Preferred Shares With International Exposure And 9% Yield

Summary Preferred shares as an investment category is dominated by US securities. Two funds offer opportunities to diversify the preferred shares allocation in an income portfolio. These funds are discussed here. With this article, I conclude my look at preferred-shares closed-end funds. In the first ( Where Are the Best Opportunities in Preferred Shares? ), I presented the data on 16 funds in the category. I followed up with a closer look at my choices among the purely domestic fund ( These Top Choices for Preferred Shares Will Bring Nearly 9% Yields to Your Income Portfolio ). Here, I conclude with the two international funds in the category. The Funds Flaherty & Crumrine Dynamic Preferred & Income Fund Inc (NYSE: DFP ) First Trust Intermediate Duration Preferred & Income Fund (NYSE: FPF ) Both funds score high enough on my initial screen to make it to the overall short list. DFP stood out on the basis of its recent returns (especially on NAV) and FPF scored high for its high distribution (top of the category for market distribution, and second on NAV) and its high level (third in category) of undistributed net investment income backing up the distribution yields. I put off examining them in detail because I wanted to focus on the domestic funds, all of which had an extended historical record. DFP and FPF are more recent funds; both, coincidentally, have the same inception date of May 24, 2013. Discount/Premium Discounts are identical (-7.95%) for each, which is about mid-range for the category. And for both, the discounts have been shrinking. DFP’s Z-scores are positive for 3 and 6 months. For 3 months it’s 1.03. For FPF, Z-scores are positive for 3, 6, and 12 months; for 3 months it’s 1.1. Both funds showed a similar pattern in the evolution of their discounts. Both held a premium valuation at inception and soon thereafter, then, as is typical of closed-end funds, the premiums fell to discounts as the fund began trading. This can be seen in these charts (from cefconnect ) of their full premium/discount histories. First DFP (click to enlarge) and FPF. (click to enlarge) FPF falls below the category trend line on the Discount vs. NAV Distribution chart (see previous articles for this chart). DFP is above it. As I’ve noted, this relationship favors funds that fall below the trend line. Distributions FPF’s yield on price is a category-leading 9.01%, from a 8.29% NAV distribution yield. DFP’s distributions are mid-category, both on price (8.59%) and NAV (7.91%). DFP has negative UNII (undistributed net investment income) at -2.5% of its distribution, which value places it ahead of only two other funds, neither of which made the cut for the short list. FPF is positive with excess UNII at 5.28% of its distribution, which is third for the metric in the category Two funds examined previously, JPC and HPI , lead. FPF has paid out special distributions in each of its two years of activity; it would appear shareholders can expect another for 2015. When the special distribution is included in yield calculations, FPF’s yield for the past twelve months is 9.8%. Preferred shares dividends may be qualified for the 15% tax rate for most investors. For the 2014 tax year, FPF reported 56.53% of its income from qualified dividends, and DFP reported 70.20%. This is similar to the pattern we saw previously in the domestic funds where the Flaherty & Crumrine funds had the highest levels of qualified dividends. Portfolios These two are the only funds in the category that have holdings extending beyond US borders. All of the others are 100% invested in US companies. For DFP, the non-US segment of the portfolio is 21.3%; for FPF it is more than twice that, 48.7%. FPF also has a more diverse group of countries represented as we see in the tables below: (click to enlarge) Both funds are leveraged, as are all the funds in this category. DFP has 33.6% leverage, which is the category median, and FPF has 30.99% ranking seventh or one off the median. DFP’s portfolio is 97.8% invested in preferred shares. FPF’s objective strategy statement ( here ) states that it “will invest at least 80% of its Managed Assets in a portfolio of preferred and other income-producing securities.” The fund is listed as having 29.8% of its portfolio in preferreds and 67.3% is in a category described as “investment funds.” From the most recent holdings statement, I take that larger category to be fixed-rate capital preferred securities, hybrid securities that combine the features of both corporate bonds and preferred stock. These are typically issued by utility companies and financial institutions and accrue certain tax benefits to the issuing institution. According to Fidelity, these typically provide higher yields and typically are senior to preferred or common stock. Morningstar lists a weighted average credit score of BBB- for DFP. No average is calculated for FPF, but the fund’s most recent report ( here ) shows a distribution centered on BBB-. FPF’s credit quality distribution is shown below: (click to enlarge) Both funds’ portfolios are heavily concentrated in the financial sector. This is how FPF reports the industry distribution for its holdings: (click to enlarge) And this is how DFP’s holdings break down on a sector level: Summary These funds offer international diversification to the preferred shares investor. FPF, with its greater exposure to non-US holdings and a wider range of countries in its portfolio, does this more effectively. The primary reason to venture into these funds, in my view, is for international exposure and FPF does that more effectively than DFP. So, the edge here goes to FPF. Both have a reasonable discount, but those discounts are well above (i.e., less negative, therefore less discounted) recent mean values. Neither has an edge on this metric. DPF offers a high yield, but it comes with the downside of negative UNII. FPF’s yield is higher and one might reasonably expect a year-end special distribution from the fund as well. FPF has a stronger recent total return record (11.5% for one year, second to the John Hancock funds ( HPF , HPI and HPS discussed earlier). A clear win for FPF here. I’m not sure that I’d consider either fund a timely buy right now, but between the two, the clear choice would have to be FPF for its stronger yield, favorable UNII, and its more diverse portfolio.

Building A Dividend Stream With The Best U.S. REIT ETF

Summary The uncertainty around the interest rate hike was not resolved in September. The high level of volatility is expected to continue in the coming months as well. Take advantage of the occasional dips to build a position in an income stream ETF. Back in June, after the second quarter of high volatility in the REIT sector, I wrote about the opportunity in U.S. REITs. The latest dip was marked during the first half of September towards the Fed’s decision when we saw both the REITs and utilities dropping dramatically. Since the Fed announced that it is essentially pushing out its decision to a later date, there is no reason to believe that the high volatility is behind us and that we will not see high levels of anxiety towards the Fed’s announcements, the one in October or in December. The volatility in REITs is well seen in this Vanguard REIT Index ETF (NYSEARCA: VNQ ) graph. The ETF hit $72 just after Yellen’s announcement, but in the following couple of weeks, it rallied pretty nicely, closing at $75 on September 25. (click to enlarge) Is it still the best U.S. REIT ETF? The next table compares VNQ to the other 15 ETFs that are focused on U.S. REITs. I marked the top five in each of the categories of dividend yield, management fees and the total return during the last 3 and 5 years in green. (click to enlarge) VNQ was favorable in all of the categories, delivering more than 4% yearly yield at only 0.12% yearly management fees with an impressive 72% return during the recent five years. Throughout 2015, through times of uncertainty and concerns, not only has VNQ continued to pay uninterrupted dividends, but also on top of that it grew its dividends by ~10% compared to the year before. The next graph shows VNQ’s quarterly dividends starting Q1’10 until the recent Q3’15. For Q4’15, I have plugged a $1.1 dividend, which is equal to the one paid back in Q4’14. While the other three dividends this year went up by 10%, it would be very hard to believe that the forth one will not grow, but I always like to be conservative: (click to enlarge) How can we model it forward? The 2015 dividend per share is estimated at $3.13, growing 10% year over year. An investor who wants to build a position during the next 10 years can generate some interesting strategies assuming they are willing to invest in VNQ regularly. What can one expect from this type of investment? First thing, let’s examine the dividend growth rate. Nothing can grow forever at the level of 10%. Moreover, this sector like any other sector is exposed to risks. REIT risks are associated with macroeconomic slowdown, space overflow and rental pricing. For a long-term model, let’s judge the growth rate to be 4-5% per year for the next decade. Model Assumptions Dividend rate: The current VNQ dividend rate is 4.2%. Let’s use it in the first year. Dividend growth rate: If we should pick a number between 4% and 5%, let’s go with 4.5%. Tax rate: Since not every investment can be tax free, let’s assume a 25% tax rate on the dividends. Investment: $1,000 invested per month or $12,000 yearly investment across a time period of ten years. The dividends, net of taxes, are assumed to be reinvested as well. VNQ’s price: The ETF price across the years is highly unknown. In order to mitigate that, let’s look at two scenarios. Scenario 1: VNQ’s yearly prices change at the same pace as the dividend per share. That means that in this scenario the ETF price will go up by 4.5% every year. Scenario 2: VNQ’s price remains at $75, or in other words the investment and reinvestment are taking place through the time of dips in the ETF pricing. Scenario 1 results In this case, where the ETF prices are growing alongside the dividend per share, after ten years, the investor has accumulated a holding of 2,093 VNQ shares. This holding has the potential to generate $9,739 in dividends per year. The investor invested $120,000 and therefore can expect 8.1% return on his investment in the tenth year. An income stream that potentially will continue to grow afterwards. Scenario 2 results In this scenario of flat ETF prices through the ten-year horizon, the amount of accumulated shares is ~30% higher than in scenario 1. The holding is getting to a total of 2,783 shares. It has the potential to generate a yearly income stream of $12,946 per year pre-tax. The following year, if we’re maintaining the same assumptions of reinvestment, the income stream after taxes is expected to exceed the $12,000 threshold. After ten years, the investor had invested $120,000 and expects to receive 10.8% in annual dividend return on his investment. Conclusions The anxiety regarding the interest rate will accompany us in the coming months and years. This will generate great opportunities for the long-term investor who is pursuing an income stream. The REIT sector is expected to grow even if the interest rate will rise. I find VNQ to be the best ETF that focuses on U.S. REITs. The patient investor has the potential to gain significant returns by setting their investment strategy straight. As there is no way to best optimize the entry or time the market, the investor should build a position through several purchases. And lastly, an investor should take advantage of the days of panic. These will be the days that will serve them well in the long run.

Ill At Ease With Biotech? Prescribing #1 Healthcare ETFs

The recent carnage in biotech investing seems more vicious than anticipated. This hot corner of the broad U.S. healthcare market has seen many a correction before, but none seemed as rigorous as it looks now. The recent rout was instigated merely by a tweet – by presidential candidate Hillary Clinton. Her tweet raised concerns over the over pricing on life-saving drugs. Questions over biotech pricing came on the heels of a 5,455% price hike (in about two months) of a drug called Daraprim, used to treat malaria and toxoplasmosis. This gigantic leap in pricing action was taken by a privately held biotech company Turing Pharmaceuticals (read: How Hillary Clinton Crushed Biotech ETFs with One Tweet ). Pricing issues in the biotech space has long been a concern. On the whole, branded drug prices underwent a rise of about 14.8% last year, as per research firm Truveris. There are several other drugs namely cycloserine, Isuprel, Nitropress, and doxycycline that have seen enormous price hikes this year, per the source. This along with overvaluation concerns led to a bloodbath in this otherwise soaring sector last week. In fact, growing pains for biotech investing led the biggest related ETF iShares Nasdaq Biotechnology ETF (NASDAQ: IBB ) to incur the largest weekly loss in seven years. Plus, investors should note that biotech stocks underperformed the broader market during the last four election cycles, as noted by Barrons.com . Barrons’ analysis shows that the broader market indices including S&P 500, Dow Jones and NASDAQ composite gained 11%, 8%, and 18%, respectively, on average against 15% loss incurred by the NASDAQ Biotech index during last four election phases. In such a scenario, it is wise to take some rest off biotech stocks and ETFs, and instead spin your attention toward the more stable but equally promising broader healthcare ETFs (read: Guide to Inverse & Leveraged Biotech ETF Investing ). Why Broader Healthcare? The broader healthcare sector is also loaded with potential. A whirlwind of mergers and acquisitions, promising industry fundamentals, plenty of drug launches, growing demand in emerging markets, ever-increasing healthcare spending and Obama care play major roles in making it a lucrative bet for the long term. Moreover, unlike biotech, healthcare ETFs are relatively defensive in nature and do not completely let investors down even in a broader market sell-off. In the latest biotech tumult, when ETFs like the SPDR Biotech ETF (NYSEARCA: XBI ) , the ALPS Medical Breakthroughs ETF (NYSEARCA: SBIO ) and the BioShares Biotechnology Clinical Trials ETF (NASDAQ: BBC ) retreated in the range of 6% to 8% on September 25, most broader healthcare ETFs lost in the range of 2% to 3%. As a result, Zacks Rank #1 (Strong Buy) healthcare ETFs could be in watch ahead, at least until the penchant for biotech investing returns. Investors should note that the following healthcare ETFs hold a Zacks ETF Rank #1. PowerShares S&P SmallCap Health Care Portfolio ETF (NASDAQ: PSCH ) This ETF has delivered a spectacular performance in the broad healthcare world, returning nearly 25% so far this year and losing just 2.4% in the last one month overruling the biotech woes (as of September 25, 2015). The fund offers concentrated exposure to small cap healthcare securities. It holds 74 securities in its basket, with each security holding less than 4.61% share. From an industry perspective, about one-third of the portfolio is allotted toward healthcare equipment and supplies, followed by healthcare providers and services (28.3%) and pharmaceuticals (15.7%). The ETF has amassed $268.5 million in assets and trades in a lower volume of about 40,000 shares per day, while charging a relatively low fee of 29 bps a year. The fund continues to hold a Zacks ETF Rank #1 with a High risk outlook. SPDR S&P Health Care Equipment ETF (NYSEARCA: XHE ) This product looks to track the S&P Health Care Equipment Select Industry Index. Holding 73 stocks in its basket, each security accounts for less than 1.73% of total assets. This is often an overlooked fund with AUM of $51 million and average daily volume of about 5,000 shares. From an industry look, healthcare equipment accounts for over three-fourth of the portfolio while healthcare supplies have a considerable allocation. The product charges 35 bps in annual fees. XHE gained about 18.6% in the last one year and lost 4.2% in the last one month. It was also upgraded from Zacks Rank #3 (Hold) to Rank #1 in our latest Rank updates. iShares U.S. Medical Devices ETF (NYSEARCA: IHI ) This ETF follows the Dow Jones U.S. Select Medical Equipment Index with exposure to medical equipment companies. In total, the fund holds 52 securities in its basket with major allocations going to Medtronic Plc (NYSE: MDT ) and Abbott Laboratories (NYSE: ABT ) at 14.5% and 710.7%, respectively. The fund has been able to manage about $708 million in its asset base while volume is moderate at about 100,000 shares per day on average. It charges 45 bps in annual fees and expenses. This ETF was also upgraded from a Zacks ETF Rank #3 to Rank #1 recently. The product added 12.6% in the last one year and could be a nice pick for Q4. In the last one month, the fund lost 5.8% which was much lower than double-digit losses incurred by biotech ETFs. Link to the original article on Zacks.com