Know Your Yield , Know Your Risk

Your Portfolio Yield Determine Your Risk-Tolerance , No?

In general, your portfolio yield could be a very good indicator if you are taking too much risk or risk-averse. I plot a chart to show my portfolio yield vs other income investment instrument as below:

My yield from equity is about 6.1%, which is slightly lower than S-REITs average of around 6.5% (base on OCBC Investment Research S-REIT Tracker-link ). Although I am just having around 42% in REITs since my other’s holding also mostly dividend play like Telco/ Banks + 2 investment trust ( Hotung Investment and Global Investment) and some other blue chips ( Keppel Corp / ComfortDelgro) etc, which gave me a yield of almost 1.75X higher than STI ( ES3).

My Portfolio Yield (Including Bond + CPF) drops to just around 5.1% if I include the Bond and CPF balance where the interest rate is lower than Equity.

How about you? what is your Portfolio Yield in average ? if it is more than 8%, I think you should review your holdings as you might be having too many “high yield “ or risky stocks.

In the current extremely low-interest-rate environment, it is not surprising that investors will shift toward investments that give us a higher return on dividend yield other than capital gain. This is known as “search-for-yield” behaviour.

Sometimes, if the yield is too high and too good to be true, we must always be cautious and  check if it’s a “ value trap”, not to become a “ Yield Pig “ that be slaughtered eventually.

I have blogged about " Value Trap" - here

What is “Yield Pig”?

"Yield pigs" became a term for investors who were susceptible to any investment product that promised a high current rate of return, without properly assess the risk that the product carried. 

Seth Klarman uses Margin of Safety to prevent investors from becoming yield pigs, warning that if high yield assets were indeed a low risk, they wouldn't be offering a high yield in the first place.

In order to achieve higher levels of return, above that of U.S. government securities (the "risk-free" rate), increasing levels of risk must be taken in line with the premium over the risk-free rate. Higher risks will often erode capital. Of course, higher returns for higher risk only applies on average and over time; as returns of the wider market will justify.

Seth Klarman wrote the following article in February 1992, which may still apply in today’s investment philosophy in analyzing our “risk-reward ” profile.

"Don't Be A Yield Pig"

Seth Klarman, Forbes 1992

“Investors must carefully examine alternative investments to assess when they are being adequately compensated for bearing risk and when they are not. When the yield differential between riskless and more risky securities are sufficiently large, even conservative an investor might reasonably venture beyond U.S. government securities.

Unless they are deluding themselves, investors understand that to achieve incremental yield above that available from the U.S. government securities (the "risk-free" rate), they must incur increasing levels of principal risk.

Some investors, desperate for better yield, have been reaching not for a new Wall Street product but for a very old one--common stocks. Finding the yield on cash unacceptably low, people who have invested conservatively for years are beginning to throw money into stocks, despite the obvious high valuation of the market, its historically low dividend yield and the serious economic downturn currently underway.

These days, however, I don't believe investors are being compensated sufficiently to venture beyond risk-free instruments. Yield spreads between government bonds and corporate credits have contracted sharply this year from levels a year ago. Some bonds of such highly leveraged issuers as Burlington Industries and Unisys now trade above par. A year ago they sold at substantial discounts from par.

How many times have we heard in recent months that stocks have always outperformed bonds in the long run? Funny, but we never hear that argument at market bottoms. In my view, it is only a matter of time before today's yield pigs are led to the slaughterhouse. The shares of good companies and bad companies alike are vulnerable to sharp declines. Moreover, many junk bonds that have rallied will tumble again, and a number of today's investment-grade issues will be downgraded to junk status if the economy doesn't begin to recover soon.”

When setting your portfolio yields there are many factors to consider, such as “liquidity, credit quality, asset class, free cash flow, ability to pay dividends, etc.  For examples on the fixed income investment, if you were to buy a 10 year SG Saving Bond and held to maturity you would yield 2.16% on average.

This month's SG Saving Bond <from sgs.gov.sg>

Of course you could buy high yield corporate bonds that will pay higher yield but be aware you are going lower in credit quality, not like SG Saving Bond which has an AAA credit rating. If you wanted to invest in equities, for example, you could buy an ST Index fund or ETF which would yield about 3.44%.  ( STI ETF: ES3 )

You could also, buy individual stocks that pay dividends. Many blue chips now paying more than 4% (like Banks or Telco ) which is higher than STI ETF.  If you are buying REITs, it may give a much higher yield than most of the blue chips. It Is easy to find REITs with a dividend yield of around 5-7%, of course with strong run-up on REITs recently, the dividend yield for some of the so-called “blue-chip” REITs like Capital Mall Trust / Capital Comm REIT and Parkway Life REIT have dropped to below 5%.

At the end of the day it is difficult to know how much yield you could get from your investment portfolio without knowing your risk tolerances and objectives. We are in a particularly unique market environment where most of the central are continuing with “easing monetary” policy and lower interest rate.

With all investments that’s there are risks involved and the potential to lose principal. I would suggest you determine your risk tolerance first and come up with options that fit your risk parameters and how these investments may fit into your overall portfolio and desire yield.

Besides, your investment time horizon whether you are in the stage of “wealth accumulation “ or retirement will also play an important role.

Ultimately , one will need to be “ ownself check ownself “!  😃

Cheers !!

Quote Of The Day :

"Caution has not been a profitable investment tactic for a long time now. I strongly believe it is about to make a comeback."  Seth Klarman