How To Increase Income In Retirement Accounts

by: Avi Morris

Rising stock prices have made earning acceptable levels of income difficult in retirement accounts for those in or near retirement. The Federal Reserve has pledged to keep interest rates at or near record low levels until late 2014. The 10 year Treasury yields a meager 2¼% and short term notes yield almost nothing. But there is virtually unlimited demand for Treasury securities from risk averse investors around the world.

Investment grade corporate bonds are also traditional investments for earning higher income. In this environment of low interest rates, there is substantial demand for these bonds which has driven their yields lower. The highest yields are only 4-5%, and shorter maturities have lower yields.

The search for higher income increased buying high yield (junk) bonds. Their rates are around 8%, comparable to the lowest rates in the past, representing a 575 basis point spread over the 10 year Treasury bond. But that spread is wider than narrowest spreads in the past (450-500 basis points), indicating these rates can persist for some time.

A newer investment for retirement accounts is MLPs which have an outstanding record of growth over the last 16 years (when many of famous stocks have not). The Alerian MLP Index grew at an annual compounded growth rate of 9%. But they are better known for high yields (which have tax advantages in personal accounts). The yield on the index has been reduced to 6% (near the record low of 5.37% in 2007).

Kinder Morgan [(NYSE:KMP) and (NYSE:KMR)] will become the largest MLP in the U.S. and Canada by Q2 after acquiring El Paso (EP). Enbridge Energy [(NYSE:EEP) and (NYSE:EEQ)] has pipelines for natural gas, but is best known for bringing oil from western Canada to the upper Midwest and a regional oil hub in Cushing, Oklahoma. Its latest investments have been more pipelines to transport energy from the North Dakota area. KMP yields 5.5% and EEP has a 6.6% yield.

REITs have provided high yields (in double digits), which were reduced from rising stock prices in the last 10 years. In the recession, many REITs cut dividends but dividends have rebounded and yields are typically 3-5%. Entertainment Properties Trust (NYSE:EPR) invests in movie multiplex theater complexes and other leisure properties with a generous yield of 6.5%. HCP Inc (NYSE:HCP) invests in health related properties and yields 4.9%.

Stocks are not as well known for high yields but in today's market, they are getting more attention to raise income in retirement accounts. High yields are attractive, especially from stocks with growing dividends. Dividend Aristocrats have been increasing dividends annually for at least the last 25 years (HCP above just joined this elite group). During a very difficult recession in 2008 and 2009, their dividends were increased when many highly regarded companies ended their streaks. That was also the case in 2000 recession, 1990 recession and, for most of these companies, through the very brutal recession in the early 1980s. That performance shows a commitment to reward shareholders with strong finances. Consistent dividend growth is a key ingredient for impressive capital gains. 3 of the best offering high yields are RPM (NYSE:RPM) and Leggitt-Platt (NYSE:LEG) along with HCP, the REIT discussed above.

RPM is a leader in specialty coatings and sealants serving industrial and consumer markets. The company has increased the annual dividend for the last 39 years.

Leggitt-Platt makes components for seats and household furniture, but does not get a lot of recognition. It has been actively buying treasury shares in recent years and has raised the dividends for 41 consecutive years.

Earning higher income in retirement accounts will be challenging while interest rates are kept low. The very highest yields, primarily on stocks, are excluded because the related risk is too much to be tolerated. Junk bond funds have attractive yields, but most suggest limiting those investments to around 10%. Investment grade bonds have only mediocre yields, high in safety but barely adequate for retirement. Some REITs and MLPs have respectable yields with tax advantages (these 2 MLPs have comparable stocks which pay stock dividends) and the MLP distributions have increased substantially (never reduced). I have a soft spot for Dividend Aristocrats. Higher yielding ones offer yields not much lower than junk bonds, which will increase going forward (and improved when dividends are reinvested). Dividend increases bring higher retirement income in later years when it is most needed.

Disclosure: I am long EPR, EEQ.