My wife and I bought a house in November, a big move up for us from our small starter home to a bigger (and more expensive) house for our growing family. We got really lucky with our timing, finding the perfect house and a seller who needed to sell quickly and accepted a much lower price than we expected. We were also fortunate that interest rates have been so incredibly low.
Combined, we are in the lucky position to have a mortgage payment well within our ability to pay, plus being able to invest additional money each month in a "pay off the mortgage" account. The short story is, with a 3.75% interest rate on the mortgage, I expect I will be able to consistently deliver a far better rate of return over the long term by investing that extra money in high-yield dividend stocks than I would get by paying down the mortgage. Go here for the longer version of that story.
Let's take a closer look at the first three high-yield dividend stocks I have bought, how they've done so far, and my expectations for the future.
My goal with this portfolio is not to deliver higher returns than the S&P 500; it's to consistently and safely generate a rate of return that's better than the 3.75% interest rate I pay on my mortgage. That's a relatively low bar, but I want to keep my risk of permanent losses low, too. That is why I am focusing on companies that should prove capable of maintaining their dividend payout and, ideally, increasing it over time.
In order to reduce my chance of losses, I intend to invest in a different high-yield stock each month for the first year, and only after that point will I consider reinvesting in any stocks I have already bought. Moreover, I am considering instituting some guidelines to keep any one stock from becoming too large a portion of this portfolio. This could include rebalancing my holdings if any one stock becomes a substantial portion of this portfolio through high capital appreciation. This actually runs counter to how I typically invest, since I generally view selling stocks that have gone up just because they have gone up as a mistake. But this is a unique portfolio that's designed with a specific goal: outperform that 3.75% interest rate with minimal risk of permanent losses.
Let's move on to the stocks I've invested in.
The three high-yield stocks I've bought so far
I've invested about $250 each of the past three months. Here are the stocks I've bought so far:
|NextEra Energy Partners (NYSE:NEP)||Yieldco||3.3%|
|Tanger Factory Outlets (NYSE:SKT)||Retail property REIT||11.2%|
As you can see, this is a relatively diversified group of businesses, with no overlap in their respective industries. However, it's not a perfect beginning to full diversification. Let me explain.
Owning businesses that do different things isn't complete diversification. Yes, these three companies do very different things: build cars, generate electricity, and own retail property. However, when it comes to end-market exposure and risks to their business, two of the three -- Tanger and Ford -- have a lot of overlap. That's because both generally need a healthy economy to spur demand for their businesses.
To put it another way, people are less likely to buy a new car or splurge on a trip to the outlet mall during a recession. So while they don't compete for the same customers, Tanger and Ford would face similar implications to their business results during a weak economic period. But it's not an exact correlation, and Ford is an international business, while Tanger only operates in North America, so I'm not significantly concerned about the overlap in their risk profiles. But it's a good lesson in things to consider when building a truly diversified portfolio.
How's it working out?
In short, it's a bit of a mixed bag so far, and technically I would have done better to put that money toward the mortgage:
|Stock||Month Purchased||Total Return (or Loss) to Date|
|Tanger Factory Outlets||January 2020||(19.9%)|
|NextEra Energy Partners||December 2019||15.3%|
Two of my investments -- Ford and Tanger -- are losing money so far, with their combined losses larger than the nice 15% gain NextEra Energy Partners has delivered. So what's happened?
For Ford, the company's shares have continued to struggle since the company reported underwhelming earnings, but I purchased my shares after the report came out and had the expectation that its shares would likely muddle along without generating meaningful gains over the short term. But even during a bad year, Ford generated almost $3 billion in adjusted free cash flow.
For Tanger, its outlook has gotten a little worse since I bought. The company announced in February -- after I purchased shares -- that 2020 would be a bit painful as it works through the loss of some tenants. Yet even with what is expected to be a tough year, Tanger should generate meaningful results, with a dividend coverage ratio below 75% at the low end of the company's own guidance. That's very strong.
NextEra Energy Partners, on the other hand, is delivering solid results from its collection of wind, solar, and natural gas assets, as well as a continued bull run on renewable energy yieldco stocks that's pushed its shares near an all-time high.
Time to change strategies? Not so fast
One look at the results so far could make it seem like it's time for a change in my approach. To the contrary; I think it's an excellent reminder that volatility is part of the "price of admission" with stock investing, even with a lower-risk strategy such as this. Most importantly, I haven't actually lost anything. I still own just as much of these three companies as I did when I bought, and my expectation is that over time, the results these companies deliver will result in the stock prices going up more often than they go down.
Lastly, the biggest key to this strategy is earning dividends, which will be paid out quarterly by these three stocks. It's going to take more time for the biggest part of this strategy to even show up in the results. That means I have to be willing to ride out the short-term ups and downs of the market to profit from this strategy.