My last few columns have focused on the need for investors to stay defensive and minimize the risk of big losses, while simultaneously being positioned to profit from any unexpected stock market rebound — like the one we saw last week, when the Dow gained 648 points in five days. The key is to build a portfolio around a core of high-yielding blue chips. Here, I outline a simple mix of a dozen holdings that illustrates that timely approach.
Favoring high-yield blue chips is worthwhile for conservative investors at any age, and it’s especially smart for those in or near retirement. So even if you don’t buy into my Black Swan thesis – that you need to be prepared for the possibility of an unexpected stock market recovery over the next 12 months – getting a large chunk of your return in the form of dividends and interest makes a lot of sense.
One of the big investing challenges is that stock returns vary enormously from year to year. In fact, once inflation is taken into account, stocks turned in losses during the 1970s. And results have been equally bad for much of the past decade.
Prolonged periods of poor performance undermine all the efforts of investors trying to build their net worth. And for those already spending down retirement savings, the danger is even greater – to get money to live on, retirees may be forced to sell stocks when prices are severely depressed.
The picture is fundamentally different, though, for a portfolio that pays more than 4% in dividends and interest. With that part of the return locked in, investors have some protection against falling far short of their targets. And retirees can withdraw 4% a year – as conventional wisdom prescribes – without ever having to worry about being forced to sell something at a loss.
In practice, the best way to create such a portfolio is to focus on high-yielding blue chips along with a few fixed-income choices to push the overall yield a bit higher. Dividend increases should roughly keep pace with inflation over the long term.
As an illustration, I’ll outline the holdings in one of my own IRAs. But first, two caveats. These aren’t the only investments I own – I have other accounts that provide more diversification. And the investments in this particular IRA were chosen almost entirely for yield. Here’s a quick look at the specific holdings:
Telephone stocks: AT&T (T, yielding 5.6%) and Verizon (VZ, 5.4%). Whatever the industry’s problems, it seems as though demand for wireless phone and data service from smartphones and small computers will help these companies long term.
Health-care stocks: Johnson & Johnson (JNJ, 3.5%) and Lilly (LLY, 5.3%). These companies may have to worry about drugs losing patent protection and the impact of health-care reform, but the aging baby boomers will provide growing demand for a broad range of health-care products.
Consumer staples producers: Kimberly-Clark (KMB, 4.3%) and Procter & Gamble (PG, 3.3%). Demand for soap, toilet paper, toothpaste and diapers isn’t likely to weaken much even in a sluggish economy.
Oil stocks: Chevron (CVX, 3.2%) and Conoco (COP, 3.7%). The price of oil is likely to rise further over the long term and these two companies are among the highest-yielding major oils based in North America.
For the sake of diversification, the portfolio also includes chemical giant DuPont (DD, 3.2%).
Also for diversification, I have three exchange-traded funds: iShares S&P U.S. Preferred fund (PFF, 7.2%), SPDR Barclays Capital High-Yield Bond fund (JNK, 8.3%), and SPDR Utilities Sector fund (XLU, 3.9%).
These investments may not outpace the S&P 500. But collectively, they should resist market declines and keep up with inflation over the long term. And because most of the yield comes from equities, you’ll participate in the next broad stock market advance (something you’d miss out on if you relied heavily on Treasury bonds or money-market funds).
Overall, the portfolio provides an average annual yield of just over 4.7%, a smidgen more than a retiree should spend. And the result of that, according to Mr. Micawber, is happiness.