Monday was one of the most bizarre days I have experienced in my 20 years in the investment publishing business. The three major stock indices in the U.S. each fell over 7% on the day. While that is up there in terms of bad days for stocks, it wasn’t the bizarre part for me.
The two things that I found to be the most bizarre were oil falling by 25% and the fact that the entire U.S. Treasury yield curve fell below 1.0%.
Most of us probably like the idea of oil prices falling because it means gas prices will fall and we will be paying less at the pump. Even that is the case, there is also a point where oil prices fall so much that it hurts our economy due to oil companies shutting down drilling operations. The people that work at these oil companies get laid off or let go entirely and it puts a strain on the economy.
Because oil dropped so drastically on Monday, the Energy Select Sector SPDR (NYSE: XLE) fell over 20% on the day and I have never seen anything like that. Sure I have seen 2x and 3x leveraged ETFs jump or fall by over 20% in a day, but those are leveraged. The XLE isn’t leveraged and it has 27 different stocks among its holdings. The top two holdings in the ETF are Exxon Mobil (NYSE: XOM) and Chevron (NYSE: CVX), and collectively they represent over 42% of the fund’s value. Exxon Mobil fell 12.2% on Monday while Chevron fell 15.4%. This tells us that the other stocks in the fund fell even more dramatically.
One possible attraction to the fund is that most of the holdings pay pretty decent dividends and the yield on the XLE is up to 8.8% after the collapse yesterday. Unfortunately, many of the oil companies will be cutting their dividends after the dramatic drop in oil prices.
This leads me to the huge jump in Treasuries that occurred yesterday. Remember, when bond prices jump, the yields fall. At the close of trading Monday afternoon, the 30-year Treasury bond was yielding 0.99% and the 10-year Treasury note was yielding 0.49%.
With yields on treasuries so low, I started wondering where income investors are turning for yield. My first thought was, would income investors turn to high-yielding stocks with the market in so much turmoil? I looked at the Utilities Select Sector SPDR (NYSE: XLU) to see what its yield was and found that the current dividends would yield 3.07%. While that isn’t great, it sure beats 1.0% for 30-year bonds, but it also comes with greater risk.
The second ETF I thought of was the iShares Select Dividend ETF (NYSE: DVY). This fund focuses on high-yielding large-cap stocks and has AT&T (NYSE: T) and Qualcomm (Nasdaq: QCOM) as its top two holdings. The DVY’s current yield is just shy of 3.5%, but it also carries more risk than the 30-year treasuries and more risk than the XLU. Since the S&P peaked on February 19, the index is down 18.9% while the DVY is down 20.3%. Meanwhile, the XLU is down 9.6%.
I can see some investors fleeing treasuries with the yields being so low, but I don’t see a mass exodus. Some investors will probably consider investing in utilities stocks or the XLU as an alternative to treasuries, but I don’t know that the DVY offers enough of a yield difference to garner as much trust from investors. The risk/reward relationship just wouldn’t work for most income investors.
Getting back to the original question that is the title of this article, can income investors come to the rescue for stocks? I don’t see that happening. Sure, there will be some investors that are willing to buy a few high-yielding companies after they have dropped so dramatically, but I don’t think there will be enough of a shift to bring stability to the market or “rescue” the indices.
I’m not sure where income investors can turn these days. One possibility is a corporate bond ETF like the iShares iBoxx $ Investment Grade Corporate Bond ETF (NYSE: LQD). This ETF is currently yielding just over 3.0% and it has been far more stable than most stock ETFs, including the XLU. If we look at the total return, capital gains and dividend payments, since the beginning of 2019, the LQD has returned 20.8%. The XLU has returned 23.7%, but has fallen far more sharply in the last three weeks. For comparison purposes, the Spyders have returned 11.8% since the beginning of 2019.