Is This 24% Dividend (Paid Monthly!) Too Good to Be True?

By Brett Owens

aEURoeItaEURtms my money, and I want it now!aEUR

ThataEURtms the rallying cry of everyday folks in commercials for J.G. Wentworth, a financial services firm that offers lump-sum cash payments for structured settlements, annuities, lottery payments and more. (If youaEURtmve never seen one of these TV spots, I suggest you try one out. TheyaEURtmre so bad theyaEURtmre good.)

Every income investor could (and probably should) take a cue from its motto. To quote another spot: aEURoeShow us the money!aEUR

Monthly dividend stocks, of course, pay more often than any other income investment. Dividend checks coming in every 30 days are especially handy for retirees who have bills to pay. Mortgage payments (maybe), cell phones (obviously), along with electricity, heat and cooling and even Netflix (NFLX).

Most stocks and funds, however, only pay quarterly. That leads to aEURoelumpyaEUR income that doesnaEURtmt align with reality. Some months youaEURtmre ahead of the game, others youaEURtmre not:

But monthly dividends are easy. Every month is the same total payment:

Plus, monthly dividends compound faster. If you get paid, say, $12 per share per year, you have to wait until that annual payment to put that $12 to work. With quarterly dividends, you can put part of that $12 ($3) to work after a quarter, and another part the next quarter, and so on. With monthly payers, you can put $1 to work every single month.

For those of us who reinvest our payouts, receiving them faster helps us buy more and more shares. More shares deliver more dividends. ItaEURtms a subtle point, but these days weaEURtmll take every extra dividend dime we can earn!

Of course, this goes out the window if the monthly payers we buy are duds. And because of the nature of companies that deliver monthly dividendsaEUR"many tend to be real estate investment trusts (REITs), business development companies (BDCs), master limited partnerships (MLPs) and closed-end funds (CEFs), all of which have experienced deep pockets of painaEUR"there are plenty of duds out there.

But there are good monthlies, too. LetaEURtms walk through a few examples to see the difference.

Tekla Healthcare Opportunities Fund (THQ)
Distribution Rate: 7.5%
YTD Return: -3.6%

Many healthcare stocks were actually cheaper than the broader market heading into 2020, due to worries that election-year politics might threaten profits. Now, a pandemic has reminded investors that healthcare firms are always needed.

Tekla Healthcare Opportunities Fund (THQ) is an actively managed CEF portfolio of roughly 50 stocks thataEURtms similar to broad healthcare sector exchange-traded funds (ETFs) such as the Health Care Select Sector SPDR Fund (XLV). In fact, the two funds share seven of the same top 10 holdings, including Johnson & Johnson (JNJ), UnitedHealth Group (UNH) and CVS Health (CVS).

Both funds have a tilt toward larger companies, and both offer exposure to an array of healthcare industries: pharmaceuticals, biotechnology, health insurers, healthcare equipment and more.

But Tekla Healthcare Opportunities has a few important differences. For one, only three-quarters of the fund is invested in equities; it also has a 16% holding in convertible and non-convertible debt, and small amounts of convertible preferreds and warrants, as well as short-term investments. Additionally, THQ can invest up to 10% of assets in venture or restricted securitiesaEUR"exposure youaEURtmre simply going to struggle finding in other funds.

Tack on a monthly 11.25-cent-per-share dividend paid out since its 2014 IPO, as well as the fact that, as a closed-end fund, THQ can and does use leverage (about 21%) to gin up returns, and you have quite a different product than your average healthcare ETF.

Unfortunately, Boring Has Been Better

The high, consistent dividend is great, and THQ has outperformed the market by about 6 percentage points year-to-date. But XLV has done better, in 2020 and over the long haul.

Tekla Healthcare offers a 7%-plus yield delivered monthly, as well as diversified exposure to one of the marketaEURtms better sectors. But, in recent years, investors have been better off with a aEURoelameaEUR ETF. So lame.

NexPoint Strategic Opportunities Fund (NHF)
Distribution Rate: 13.4%
YTD Return: -49.5%

Mammoth dips like what we saw in February and March can be a deep-value investoraEURtms dream. Especially when they result in juicy yields over 13%.

But despite a rebound from its mid-March lows, NexPoint Strategic Opportunities Fund (NHF) remains off nearly 50% year-to-date, and itaEURtms looking weak again of late. A look under the hood doesnaEURtmt inspire confidence, either.

Accessibility can be an issue with some CEF providers, and thataEURtms certainly the case with NexPointaEURtms bare-bones site, which offers scant info on NHF. A look at the annual report, while dated, does provide some clarity, though. Sixty percent of the fund is invested in the real estate sector, which has been banged up hard. So have financial stocks (21%) and energy companies (5%). NHF also has 21% of assets in agency and collateralized mortgage obligations, and another 9% or so in communications stocks. (Thanks to leverage, its holdings add up to well more than 100%).

The trouble continues when you look at individual holdings, which include NexPoint Real Estate Opportunities (24%), and NexPoint Real Estate Capital (3.5%). Those are private REIT subsidiaries, making it all the more difficult to understand what youaEURtmre investing in.

The trouble isnaEURtmt worth it. In addition to the massive losses, NHFaEURtms 13.4% yield reflects a recent halving of its monthly dividend, from 20 cents per share to a dime. I wouldnaEURtmt depend on this black box to pay a monthly bill!

Gladstone Investment (GAIN)
Dividend Yield: 7.9%
YTD Return: -19.9%

Gladstone Investment (GAIN) is a business development company, which means that itaEURtms invested in small firms, and thataEURtms a tough way to make money right now.

To its credit though, Gladstone is holding up better than most BDCs. At 20% losses year-to-date, itaEURtms almost 10 percentage points better than Main Street Capital (MAIN)aEUR"one of the spaceaEURtms few high-quality namesaEUR"and 11 points ahead of the broader VanEck Vectors BDC Income ETF (BIZD).

When YouaEURtmre Ahead of MAIN, YouaEURtmre Doing Something Right

Gladstone, which has a conservative dividend approach that combines regular monthly payouts as well as supplemental distributions as performance allows, not only recently declared monthly dividends on par with its previous rate, at 7 cents per share, but announced a 9-cent supplemental to be paid out in June.

However, thereaEURtms a time and place to invest in these private equity-esque firms, and IaEURtmm hesitant to say that time is now. Small businesses face an unprecedented struggle not just to grow, but to even survive. Gladstone could very well come out of this with its dividends fully intact, but significant gains could be difficult to come by for some time.

Kayne Anderson MLP/Midstream Investment Company (KYN)
Distribution Rate: 24.4%
YTD Return: -58.1%

The energy sector is loaded with depressed valuations and sky-high yields. But rather than try to pluck energy producers off the scrap heap, IaEURtmm more interested in the aEURoetoll bridgesaEUR: master limited partnerships (MLPs).

Energy MLPs, which typically are involved in the transportation and/or storage of crude oil, natural gas and other commodities and refined products, boast a couple of natural advantages. For one, their cash flows arenaEURtmt as sensitive to the downdraft in energy prices, and they also tend to pay out more income on average.

I donaEURtmt often discuss MLPs because theyaEURtmre a headache come tax time, issuing a K-1 tax package that no one should have to deal with. But the Kayne Anderson MLP/Midstream Investment Company (KYN), another closed-end fund, helps you skip that with a simple 1099.

KYN invests in a handful of MLPs, including MPLX LP (MPLX), Enterprise Products Partners LP (EPD) and Energy Transfer LP (ET). And thanks to both beating in the space as well as sky-high leverage of more than 50%, the fund is able to offer distributions north of 24%.

But Leverage Also Has Its Drawbacks

Of course, that same leverage has put KYN into a deep hole this year.

Kayne Anderson can reward traders, but we typically have a narrow window to hit on the purchase. At one point, Kayne AndersonaEURtms fund was trading at just 62 cents on the dollar, but that discount to NAV has since dried up to 14.5%.

ThataEURtms still a bargain compared to its five-year average discount of just 2%. However, thereaEURtms much more downside risk now thanks to KYNaEURtms heavily leveraged nature, not to mention weaEURtmre not out of the danger zone as far as potential MLP distribution cuts are concerned.

How to Lock In $4,000 Each Month in Safe, Steady Dividends

Most investments feel like a choice between the lesser of two potential evils right now.

You can grab once-in-a-lifetime yields in KYN, but you run the risk of energy weakness eating away at those yields and sending the highly leveraged fund to exaggerated losses.

On the other end of the spectrum, you could pile into crowded, low-yield blue chips and haul in a aEURoesafeaEUR 2% or 3% with backside protection but little upside potential.

So, whataEURtms it going to be: A+ yields built with popsicle sticks and rubber cement, or A+ dividend security but with yields that arenaEURtmt enough to live on?

No retirement saver should have to make that choice aEUR

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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