Those huge dividends are (still) cheap after the August 5 crash

Think back a few weeks: the “yen carry trade” scared investors and we had a great opportunity to buy stocks – and it’s even better that we did. favorite incomes play on stocks:closed-end funds (CEF) yielding 8%+.

But wow, that was a short window! The stock has since recovered more than I expected and is what I call highly valued, with a price-to-earnings ratio of around 27.5.

Let’s be clear: I’m not saying that stocks are overvalued: They will likely continue to post strong returns as earnings rise and the economy continues to avoid the recession we have been warned about for the past three years. However, there is a greater risk that volatility will pick up again.

We now know that the August 5 crash had little to do with Japan and a lot to do with pent-up investor anxiety. Such irrational sell-offs are likely to occur again.

But don’t worry — we’ve got a plan for that: When the market pulls back, we’ll put more emphasis on stocks (and CEFs focused on stocks). But when the market fully recovers, like it is now, it’s time to buy something that many people overlook: high yield corporate bonds.

Think CEFNO ETFWhen buying high-yield corporate bonds

Most people would follow this strategy by buying (or adding more to) a bond index fund as stocks rebound from a crash, but it’s not a perfect solution.

To illustrate this, let’s compare two popular corporate bond ETFs – SPDR Bloomberg High Yield Bond ETF (JNK

SPDR Bloomberg Barclays High Yield Bond ETF
) and iShares iBoxx $ Investment Grade Corporate Bond ETF (LQD)

iShares iBoxx $ Investment Grade Corporate Bond ETF
)—to a CEF fund focusing on corporate bonds, Western Asset High Income Opportunity Fund (HIO).

HIO is my recommendation CEF Insider a service that did exactly what we wanted when we bought it in February 2023: it delivered a solid return of 14.3%, and that profit is entirely in dividend cash (price remained more or less stable):

I say the return was all in cash dividends because HIO, which has been around since the 1990s, yields 10.9% and pays dividends monthly. That’s a much more generous payout than JNK, which yields 6.5%, and LQD, with a 4.3% yield.

Since JNK’s inception in 2007, HIO has easily defeated JNK and LQD:

Given their significantly better performance and significantly higher payouts than index funds despite being essentially in the same asset class, it is clear that closed-end funds like HIO are the best option for diversifying your bond holdings.

What’s more, at the time of writing, HIO shares are trading at a 6.5% discount to their net asset value (NAV, or the value of their bond portfolio), even with the gains the fund (and corporate bonds in general) has seen recently.

These discounts are only available for CEFs. And for HIOs, the discount suggests greater growth potential. Or at least greater price stability during a recession, which would allow us to comfortably collect a monthly 10.9% payout from the fund.

These are just a few of the reasons why corporate bond CEFs are a better buy than ETFs. I’ll throw in one more: Almost all bond CEFs offer higher yields, with an average of 8.5% across the board. Monthly payouts are also common in CEF land. And receiving a larger portion of your return in cash is something we can all appreciate, especially during a recession.

Michael Foster is a Principal Research Analyst at Contrarian perspective. For more great income ideas, click here to read our latest report, “Unbreakable Income: 5 bargain-priced mutual funds with consistent 10% dividend yields.”

Disclosure: None