The popularity of exchange-traded funds has exploded recently. As part of Money’s series on an ETF for every age, the following discusses appropriate strategies and a fund that is suitable for retired investors.
Your career is in the rearview mirror. Early bird specials, senior discounts and time for your hobbies await. While the rest of us are stuck at work, a procession of cruise ships are at your beck and call.
But before embarking on that floating all-you-can-eat buffet, get your financial affairs in order. While you may be receiving Social Security benefits and making routine withdrawals from a retirement account, having an additional means of generating income could be the icing on the cake.
With this age group, a major emphasis should be placed on capital preservation. For some, that means abandoning equities entirely and reallocating to debt securities with near-zero risk and guaranteed yield, such as CDs and Treasurys.
But for those who want to remain in the market, doing so conservatively is ideal. And although you’re no longer pulling a weekly paycheck, you can turn to dividend ETFs that will pay you while you’re on the pickleball court.
High-yield ETFs
As equity securities, dividend ETFs can’t guarantee safety or fixed yields like debt securities can. Treasurys are backed by the full faith and credit of the U.S. federal government, meaning the government pledges to repay investors on these securities regardless of economic conditions. That makes them considered one of the safest investments available. Similarly, most CDs are protected by FDIC insurance. Generally, both offer fixed rates.
Dividend ETFs don’t offer those protections and their yields can vary on a quarterly basis. However, your shares can appreciate in value whereas with debt securities, the underlying principal — or par value — remains unchanged. That means with these ETFs, your money has the ability to grow not only through dividend reinvestment (in the event that you don’t need to withdraw the distributions) but also with rising share value.
However, at this age you don’t invest in dividend ETFs with the goal of capital appreciation (growth-focused ETFs are for the young’uns). Rather, these ETFs are all about generating yield to supplement your fixed income with passive income.
Passively managed income ETFs vs. actively managed income ETFs
One of the most popular options is the Schwab U.S. Dividend Equity ETF (SCHD), which launched in October 2011 and invests in high-dividend companies like Pfizer, Chevron and Coca-Cola — the latter of which is a Dividend King that has increased its payout for 62 consecutive years. With $65.28 billion in net assets, the passively managed fund pays a dividend yielding 3.76% with a low expense ratio of 0.06%. Over the past year, SCHD gained 7.34%.
But since yield — not share appreciation — is the primary objective for investors in this age group, the JPMorgan Equity Premium Income ETF (JEPI) presents a superior alternative. As an actively fund, JEPI carries a higher-yet-manageable expense ratio of 0.35%, meaning for every $1,000 invested, you will pay $3.50 in annual fees. But in return for that cost, you receive a dividend currently yielding 7.08% that is paid monthly, whereas SCHD makes its distributions quarterly.
To illustrate just how significant JEPI’s dividend is, if you have $100,000 invested in the ETF, it would yield $7,080 annually, or $590 per month. By contrast, that same $100,000 invested in SCHD would yield $3,760 annually, or $313 per month, and you’d have to way for quarterly distributions. Put another way, you’d receive 46.94% less monthly income from SCHD than you would with an identical amount invested in JEPI.
Unlike the passively managed SCHD, JEPI’s fund managers are able to achieve this by using a covered call strategy to generate income. Translation: Whereas SCHD’s yield comes from the high-dividend companies it invests in, JEPI’s yield is produced from the premium its managers generate by selling call options.
While this strategy may seem higher-risk, it actually helps reduce volatility and downside risk. And while selling call options limits the potential gains the fund produces, the result is ideal for investors in this age group. Since debuting in May 2020, JEPI has traded in a well-defined range between $49.71 and $63.19. Despite only gaining 4.95% over the past year, again, the goal of owning dividend ETFs is not to outperform the market.
In fact, the relative price stability JEPI offers is one reason it’s able to pay such a substantial monthly dividend — and one reason older investors looking to preserve their capital while generating income should be interested in this ETF.
More from Money:
An ETF for Every Age: 18 to 35
