Grow your income, lower your risk

Get creative for a higher cash flow.

If anyone needs to make money in the market now, it’s retirees or those about to punch their last time clock. However, because of the short time horizon, you have to avoid cyclical stocks and other risky securities in case your buys go bust. That’s why many turn to income-generating investments. The big dividend-payers come at a high price these days. But there are still some good choices available if you know where to look.

Cash that grows faster
High-interest savings accounts (HISAs) and Guaranteed Investment Certificates (GICs) generate money essentially risk-free; the Canada Deposit Insurance Corp. protects up to $100,000 in these accounts. With interest rates at historic lows, though, it’s nearly impossible to eke out an income by playing it safe. An HISA pays between 1% and 2% depending on the financial institution. GICs pay a slightly higher rate, depending on the type of GIC and the term.

Nowadays, using an HISA or GIC is not about the return, says David Andrews, director of investment management and research with Richardson GMP. Rather, it’s about keeping some money liquid and secure. “It won’t make your capital grow,” he says, “but if you have a liability or obligation that is very short-term, like you want to purchase a vacation property, then you’ll want your cash as readily available as possible.”

Bryan Snelson, vice-president and portfolio manager with Raymond James, uses HISAs as a place to park his clients’ cash while waiting for market opportunities. “It’s a reservoir for future income needs,” he says.

A surprising fixed-income alternative
For years, retirees have been told that they must invest in bonds in order to preserve and make money on their capital. While most investors should still own some bonds—fixed income is, generally, still more stable than equities—in order to generate returns you now have to buy riskier corporate bonds or preferred shares instead of low-paying government instruments.

Allan Small, a senior investment adviser at DMW Securities, has avoided government bonds for the past few years because they pay so little. With the inflation rate ranging between 1% and 2%, it’s possible to actually lose money investing in government fixed income. Investment-grade corporates pay about two percentage points more than short-term government bonds, and they’re less risky than they used to be. Small suggests sticking to bonds rated BBB or above.

Cambridge Advisors principal and portfolio manager Bob Swanson sees more value in preferred shares. These corporate fixed-income instruments pay a dividend that is taxed at a more favourable rate than regular bond interest, but you only benefit from this if they are held outside of a registered account. The downside is that many have longer maturities than corporate bonds, and there is no guarantee you’ll get your initial capital back intact. They can also be hard to come by; few firms issue them.

Dividend stocks that yield more
When it comes to equities, high-paying dividend stocks, especially in the utility and REIT sectors, have been the go-to investment of late. Unfortunately, their popularity has driven valuations up. As a result, investors need to be selective. One strategy Swanson uses is to buy the U.S. equivalent of a Canadian company. For example, many telecom names have been run up in price. Telus has a 4% yield and is trading at around 16 times earnings. AT&T, however, has a 5.3% yield, and it is trading at only 14 times earnings. “Take some of those similar types of companies within sectors and then go beyond the border to find better yields,” he says. Snelson adds that there’s still value in many large-cap dividend payers, but be sure to buy the ones that are growing their dividends every year.

If you want to buy into some of the more popular yielding sectors, such as real estate, then both Andrews and Snelson suggest focusing on apartment REITs, many of which have better valuations than their non-apartment peers. They also generate stable, recurring revenues. Look beyond Canada in this sector too. Through something like Dundee International REIT, a new Canadian-based trust that pays a 7.3% yield, you can get global real estate exposure from a TSX-listed company.