Suddenly, Safety is Sexy

Yes, the housing market is weak and looking to extend weakness into 2008. Yes, the mortgage credit market is a mess and risk aversion is spreading to other sectors of the market, helping to drag down the shares of financial companies.

Yet, eventually we'll see a floor on the stock market's pessimism. Why? Take a look at PEY, the PowerShares high-yield ETF that seeks out stocks with high yields and consistent dividend payments.

With the recent decline, the yield on PEY has risen to over 4.3%. Why? About two-thirds of its holdings -- which come from the Dividend Achievers 50 Index -- are financial stocks. The decline is creating a situation in which, eventually, some of these issues will become interesting as yield plays.

But that's not the big picture. What we're seeing is the longer-term seeding of doubt regarding the idea of housing as a safe investment/retirement vehicle. Baby-boomers and young professionals who have been resting assured that their home equity is their retirement nest egg will increasingly rethink that wisdom. And I don't think stocks will, by themselves, fill the void. Memories of tech market crashes and these sudden market swoons will be too fresh.

So what could provide safe haven? Savings. Dividends. Safety. The generation that blazed their way through the Sixties questioning 'The Man' may yet exit the stage as a group of coupon clippers. Holding onto what you've got will be the grim imperative. Housing was the great bastion of growth and safety. For the first time in recent memory, that basic perception is undergoing scrutiny.

Yes, there will still be opportunities in real estate, in sectors and specific markets. But it is the fundamental premise of housing as a source of retirement safety that will be irreparably eroded in many markets. Years from now we'll look back on those TV shows featuring home-flippers and wonder how we missed the signs of a bubble.

Above we see a chart of the dividend yield on the S&P 500 Index from 1970 to the present. We're currently yielding a little over 1.8%, having bottomed closer to 1% at the market top in 2000. I propose that we're seeing a nascent uptrend: rising lows in dividend yields at market tops. That, eventually, will lead to rising peaks in yields, when investors demand more safety for the perceived risk of stock ownership.

We can only get rising yields in one of two ways or a combination thereof: (1) companies raising their payouts, or (2) stock prices falling to create attractive returns on existing payouts. With housing gone as a psychological prop to retirees and those saving for retirement, sub 2% yields on blue chip stocks ain't gonna cut it.

I happen to agree with my colleague Roger Nusbaum that there is much more to a well-diversified portfolio than yield. But what's makes logical sense is not always what makes psychological sense. When much seems at risk, safety becomes sexy.

Comments

[Ralph F]

Brett, this is a great article. But I think your point about PEY illustrates exactly the problem with focusing on dividends. People think they're buying dividends, but in fact they're buying financial stocks, REITs or utility stocks, all of which have specific risks. In this case, financial stocks seemed cheap but they weren't because of their exposure to the over-leveraging of the consumer sector. So PEY got creamed.

And REITs are at all time valuation highs, and utility stocks also.

Isn't the correct conclusion: be <b>really</b&... carefully of dividend stock baskets without looking carefully at what's in them?

[phillyguy002000]

Dividends may be sexy is a flat market but PEY, sexy? Dividends can't make up for a fund that opened at $14.77 when launched in Dec 2004 and today trades at $13.78. Based on price, PEY has underperformed the S&amp;P500 by nearly 20% in the last year.

[BrettSteenbarger]

Great points; it is indeed risky to have most of one's dividend eggs in a single sector basket. It's when the stronger financial issues are offering yields comparable to relatively riskless returns that the sexy factor comes into play.

Brett