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Sound Advice: May 31, 2023

High Yields, Yes!  But There Are Risks

Now that failure to get much done in Washington seems to be the bottom line for lots of talk, but little action, it’s hard not to wonder whether we’re missing something.  Yes, the Federal Reserve Board has aggressively raised interest rates in the hope of putting a damper on excessively high inflation, but one would think that there might be some good news as a result of these efforts.

The hoped-for result is that inflation is indeed moderating.  Also of importance, though, is the sharp improvement in interest rates on fixed-income investments, usually a.k.a. bonds.  For much of the past decade or more, interest rates have languished at or near historical lows, which created considerable shortfalls for folks living on fixed incomes.

Thanks to the Fed’s hikes, the returns on bonds and the like are beginning to be of interest.  But . . . and that’s a big but . . . there are risks involved.

For short-term investing at worthwhile rates, money market funds often come to mind.  These days, returns in the 4.5% to 5.0% range are readily available.  Shares of money market funds are typically set at $1 each, a rate that is intended to be fixed.  But I recall an incident years ago when one of the investments of a substantial money market fund went sour, forcing the fund’s managers to decide whether to reduce the value of the shares (known as “breaking the buck”) or make up the shortfall with a contribution from the management company.

The company made the only reasonable decision and covered the shortfall.  Had they not, money market funds as a group would have sustained considerable damage.

Other alternatives include CDs, which will tie up money for six months, a year or longer.  Just be sure the CDs are with well-managed banks, unlike Silicon Valley Bank and a few others that have disappeared recently.

And, of course, investors may consider stocks with high dividend yields.  As noted in our prior weekly comments, worthwhile high dividends are only OK if they’re fully covered by the companies’ ongoing earning power.  If they’re not, the future will probably hold a dividend cut, followed by dividend elimination.  Which will force funds holding these stocks for their dividends to sell.  Timber!

Don’t forget about the ongoing game of chicken in Washington, which at some point may lead to default on U.S. debt obligations.

     

N. Russell Wayne, CFPÒ

Any questions?  Please contact me at nrwayne@soundasset.com 

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