This selloff has gone on seemingly forever, and I’m hearing from more investors who are feeling nervous.
I understand completely. Days of red on the indexes are tough on all of us, myself first and foremost. But the key thing to keep in mind as the world seems to be spinning out of control is that when times like these come along, our CEF strategy proves its worth, for two reasons:
- Our CEF dividends are helping us through the correction, as they have for all the pullbacks we’ve been through since we launched our service in 2017. Our portfolio yields 8.3% today, and 17 of our 23 holdings pay dividends monthly, so those payouts arrive in line with your bills. And if you reinvest them, you’re doing so at attractive prices and building your income stream—providing a useful inflation hedge.
- CEF discounts are widening, creating opportunities for long-term investors. Discounts to net asset value, or NAV, are around 6% today for both bond and stock CEFs, which is pretty close to their long-term averages, after a period of extremely narrow discounts.
But it does take all of our contrarian conviction to buy in an environment like this. So today we’re going to look at what history tells us about what this Fed-spooked market might do from here. Further on, we’ll talk about our CEF Insider portfolio, including some specific holdings I want to discuss with you.
History Gives Us A Guide To Follow
The bearish argument today is that, after the last two major market crashes—in 2008 and 2020—stocks were able to recover thanks to easy money from the Federal Reserve.
And now that the Fed is raising rates and letting its massive bond purchases during the pandemic roll off of its balance sheet, stocks will suffer, possibly for a period of years.
Trouble is, that argument doesn’t hold water.
After A Slow Start, Stocks Did Fine In The Last Rate-Hike Cycle
Today’s situation recalls the period from late 2015 to mid 2019, when the Fed raised rates while reducing its balance sheet; investors who bought into the S&P 500 at the start of the rate-hike cycle saw strong profits.
In fact, the S&P 500 saw a 12.7% annualized return over the three-and-a-half-year period of the Fed tightening rates—much better than the index’s long-term 8% annualized return.
No matter how you slice it, the Fed did not juice stock market returns during that period. Although admittedly, those who bought in had some down weeks as they waited for the market to power through fear, uncertainty and doubt.
We’re now facing similar fears, which have caused stocks to sell off despite strong economic fundamentals, most importantly unemployment (at a historic low) and wage gains (at a historic high).
So we need to wait. But as 2016 shows, patience pays off, and those who wait will be rewarded. And in fact, with the Fed likely to raise rates more quickly in the initial stages, this time around, there’s a decent chance it’ll finish its rate-hike cycle faster, perhaps as early as a year from now.
That would set up the market for gains later in 2022 and through 2023.
The Cash-Flow Solution
The answer to times like this comes back to our CEF dividends. Investors who buy low- (or no-) yielding stocks and are forced to sell into this downturn to generate cash will take a big hit, while we CEF investors wait out the storm and collect our payouts.
To see what I’m getting at, let’s look at the Adams Diversified Equity Closed Fund (NYSE:ADX), which consistently pays dividends north of 6% and mainly focuses on large-cap American companies. (This one pays most of its dividend as a one-time, year-end special payout.)
Investors who bought ADX when the Fed started raising rates in late 2015 did see losses in the first few months, but after three and a half years, they were outperforming the S&P 500.
Prominent Stock CEF Shone The Last Time Rates Rose
Investors got a better return and a solid, consistent cash flow throughout this period, so they never had to sell at a loss.
History rhymes, and we see the market setting itself up for very easy gains on recent lows, which is why it’s important that we hang tight, continue collecting our dividends and look for timely CEF buying opportunities as we ride the market’s ebbs and flows in the coming months.
Disclosure: Brett Owens and Michael Foster are contrarian income investors who look for undervalued stocks/funds across the U.S. markets. Click here to learn how to profit from their strategies in the latest report, "7 Great Dividend Growth Stocks for a Secure Retirement."