Dividends for Income
By Sam Dreher
(August 2011)

Be Careful What You Wish For:
An old saying attributed to Will Rogers is “Return OF principal is more important than return ON principal.” Of course this would have been good advice for investors chasing high dividends on the stocks of risky companies that collapse at the first sign of a business downturn; or high interest rates on junk bonds that didn’t pay back the principal at maturity; or adjustable rate preferred stocks whose bids went to zero at failed auctions; and especially on the high-yielding Collateralized Debt Obligations—AAA-rated—that lost all the principal during the sub-prime mortgage crash of 2008-2009.

Loss of principal is the usual consequence one thinks of when investors get too greedy: “If it looks too good to be true, it probably is.” As discussed in our 2010 ANNUAL REPORT, however, in this upside down investment landscape we seem to have entered, some of the things we learned in school aren’t working anymore. Anyone shopping for Certificates of Deposit during the past three years is probably finding their “principal” to be a bit of a pain. (Nobody wants it; at least they don’t want to pay anything for the use of it!) And anyone having bonds called during this time has found that their “return of principal” at the very least comes at a bad time.

As reality sets in, aging baby-boomers are beginning to realize they could easily outlive their savings. The visions created by Wall Street to sell them financial products—retirement on a beach, world travel, leaving a large estate, etc—are beginning to fade with two dreadful bear markets in the past decade, lingering economic malaise, political gridlock and a manic Federal Reserve intent on eliminating any return from the obligations of our profligate Treasury. Indeed, many investors are coming to realize in a very real sense that they would give up their principal in exchange for a reliable income stream.

To carry this line of reasoning a bit further, consider how most retirees would fare with the return of their Social Security contributions? Where would they invest the money? Bonds guaranteed by sovereign governments are being downgraded to junk, and governments—as well as corporations—in good financial shape pay almost no interest at all on their debt obligations. As for stocks, the last two bear markets have taught the folly of depending on growth for a steady income: selling investments to buy food when they are down 40% doesn’t work for long. Yes, these remarks may overstate the obvious, with too much drama and a bit too much generalization. But it’s hard to overstate the difficulty of finding reliable income in today’s financial arena, a fact about which individuals, professionals and institutions seem to be in denial. (1)

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Dividends for Income