JamesBrey Investment Thesis
Contrary to popular belief, it is possible to build a quality high yield portfolio to provide a consistent and growing income stream and still beat the S&P 500 in terms of total return and yield growth. The focus is on accumulation and growing the portfolio over the longer term and the subsequent income stream as oppose to the capital gains approach. Everyone needs income to pay the bills or invest to later pay the bills. The challenges with relaying on capital gains are numerous and include aspects like: When to buy? When to sell? How much to sell? What to buy next? When to buy next? What will the general market direction and the impact of economic and geopolitical risks be in the coming months or years? What if you sell too early or too late? All these questions are increasing the probability of sub-optimal choices.
In this article, I share the approach and criteria for building my high yield portfolio with constituent details. Analyses of performance metrics are also clearly shown to support the mentioned points.
General Approach
The general approach in building the portfolio is based on a few principles including high yield without compromising principal as declining principal will ultimately lead to declining income. The income stream need to grow at least at the pace of inflation in the long run and be able to keep growing in retirement without additional investment. Over diversification is avoided as it could lead to lower quality investments. The approach requires an extremely selective focus on top quality and best among peer selection to achieve market beating high yield. This focused portfolio is not a selection from perfect hindsight but a real life portfolio build up over the last 43 months. Past performance is not a guarantee of future results, but it does count for something. The intention is to accumulate assets with growing income streams over the long term with the option to adjust if and where needed.
Selection Criteria
Criteria are somewhat flexible with no absolute hard and fast rules but rather an integrated framework. Investments are considered in the bigger context of sustainable dividend and dividend growth. Factors supporting the primary investment objective of long term dividend & distribution sustainability and growth without compromising principal are guiding the selection of investments in this portfolio. Single company stocks are considered higher risk and are generally avoided. Over diversification within a particular fund can sometimes lead to lower quality inclusions so highly focused funds can often support investment objectives while effectively mitigating the risk exposure of single company stocks. Factors like underlying debt levels, underlying future debt servicing ability and possible reduction plans, underlying earnings growth forecasts, underlying dividend / yield growth probability, future success of fund managers and possible impact of future interest rate trends are considered for impacts on each portfolio candidate. The probability of future performance is important. Careful assessment of price and yield performance over certain “stress” periods in the past like the GFC, Covid and recent high pace interest rate increases. Long term sustainability of an investment with a balance of capitalizing on potential medium term strengths are considered. Dividend / yield % maximization is important but with manageable risk. A combination of sustainability and future growth is key to avoid a high yield chase which rely a various sustainability factor projections. Dividend / yield growth over last 5 years should ideally exceed 10% CAGR although there can be exceptions. Dividend / yield % and dividend / yield CAGR are considered in combination as well. For sustainable ultra high yield, a lower yield CAGR can be accepted. Dividend / yield and related growth are considered over longer timeframes and bigger context as well. The performance of a selected investment should loosely match the total return of a relevant benchmark (if any). If no suitable benchmark is applicable, then outperformance against peers is important. Multiple timeframes for performance comparisons are considered here with past 3 and 5 years important timeframes. Shorter timeframes are carrying less weight. Generally best in class is considered and this is an important factor to maximize quality and not over diversify portfolio with similar funds with lower performance. Investments with only normal dividends are included as a class to avoid overexposure to derivatives and alternative investments but compromising on income %. The screening and selection process are laborious with much research, comparisons and future estimates spanning a wide variety of sources including Seeking Alpha and the potential fund’s investor home page. Lastly, it must be noted that criteria for selection are applied with careful judgement within the context of future economic projections as well as the holistic profile of each candidate.
The Portfolio
Here is a list of the portfolio including the type of investment followed by a few highlights of each:
- Ticker: CSWC
Name: Capital Southwest Corporation
Type: Business Development Corporation - Ticker: HTA.U.CA
Name: Harvest Tech Achievers Growth & Income ETF
Type: Active Covered Call Technology ETF - Ticker: HTGC
Name: Hercules Capital
Type: Business Development Corporation - Ticker: OCSL
Name: Oaktree Specialty Lending
Type: Business Development Corporation - Ticker: SCHD
Name: Schwab U.S. Dividend Equity ETF
Type: Index ETF - Ticker: STK
Name: Columbia Seligman Premium Tech Growth Fund
Type: Closed End Fund – Technology - Ticker: SVOL
Name: Simplify Volatility Premium ETF
Type: Volatility & Alternative ETF - Ticker: SYLD
Name: Cambria Shareholder Yield ETF
Type: Actively Managed ETF
Capital Southwest Corporation (CSWC) is a BDC with a long track record (went public in 1961) but was changed to a BDC in 1988 focusing on private equity investments. A spin-off of CSWC’s portfolio to continue as a leveraged lender and investor was done during 2015. CSWC is also one of a few internally managed BDCs, which is preferred by many BDC investment experts. For example ARCC and MAIN are larger and popular BDC’s but did not adhere to the 5 year yield CAGR of 10% criteria. CSWC’s long-term price performance and yield characteristics are among the best in the space, but with a high current premium to NAV.
Harvest Tech Achievers Growth & Income ETF (HTA.U:CA) is a top performing ETF consisting of a very focused 20 large cap global technology stocks equally weighted including the popular names. The fund is a technology pure-play with no dilution of any other sectors. It has kept up with the Nasdaq 100 (QQQ) total return over most time intervals and even beating it over the past 1 and 3 years. Not many funds are doing this. Distributions are mostly from active covered calls. The share price and distributions are growing steadily over its more than eight year history. QYLD is a popular fund in this space but its total return over 3 & 5 years are 16.28% and 29.15% respectively in comparison to HTA.U:CA’s 53.48% and 119.28% (at close of market on Nov. 3rd 2023). JEPQ is popular but still very young and returned 32.58% total return over the last year vs. HTA.U:CA’s 45.55% and QQQ’s 42.12%.
Hercules Capital (HTGC) is a 20 year old technology and healthcare rich BDC with a great track record. This 7th largest BDC by market cap is a top total return performer over the last 3 years in the BDC space with a strong growing yield (although not meeting the 10% yield CAGR over the last 5 years) and price appreciation. It is carrying a heavy premium to NAV currently.
Oaktree Specialty Lending (OCSL) is a highly rated BDC and is in the top 10 (by net assets) with a forward yield of 11.45%. It has 75.5% of exposure to 1st lien / senior secured loans. More than 83.6% of the loans in its investment portfolio are floating rate so it should benefit from a higher rates for longer scenario. It is currently trading at about 2% discount to NAV with a top 16.81% yield CAGR over the last 5 years .
Schwab U.S. Dividend Equity ETF (SCHD) is well known for its dividend growth from a healthy base (currently 3.85%). This large cap index fund only has a 0.06% expense ratio. Are you getting the maximum yield? No. Are you getting maximum total return? No. What you are getting is a low fee diversified large cap index fund with top dividend growth from a healthy base with decent capital appreciation and manageable volatility. It is hard to beat in its class.
Columbia Seligman Premium Technology Growth Fund (STK) is a CEF with a 19 year track record of matching…
