Here’s some good news in these uncertain times: Most investors who’ve invested for the long haul are well-equipped to deal with this selloff. That’s because, over the last five years, stocks have been on an absolute tear.
In that period, the S&P 500 has delivered an average annual total return of 19.1%, as of this writing. That’s more than double the average of about 8% in the last century.
Looking at Various Time Frames Can Skew Our View
Think back five years for a moment. Back then, the stock market’s prospects looked bleak, indeed, as we were at the beginning of the pandemic-driven selloff. In the middle of March 2020, lockdowns had just begun in the US (the first one was on March 16, in San Francisco, and March 19 was the first statewide lockdown).
Thinking back to that troubled period highlights something important to remember when it comes to investing: Be careful not to take the current circumstances and project them over the long run, because historically the market’s long-term direction is up, especially over periods much longer than five years.
Early 2020 also tells us something when it comes to trying to discern if the stock market is overpriced or underpriced: Just looking at a certain time period of stock returns to try to tell whether or not stocks are a bargain is misleading because of something called base effects.
In other words, your returns will be impacted by where you start looking, which can sometimes cause some big distortions.
Hot Performers in a Hot Market
That’s always good to bear in mind, of course. But it’s still interesting to look at periods of extreme outperformance and tease out those assets that did better still. Finding one might lead us to a real gem—especially if we can pick it up at a bargain.
With that in mind, let’s look at some funds—high-yielding closed-end funds (CEFs), to be precise—that actually returned more than 19.1% annualized in the last five years.
This is important because many wealth advisors and market gurus say that actively managed funds can’t beat the market. Yet these three funds can—and have—even in an extremely hot market like the one we saw after COVID got real.
I should be honest and say right now that the reason for this outperformance is that these funds invest in corners of the market that have dominated in that time, as well as assets beyond the S&P 500. These are the main reasons why they’ve outperformed.
But this precisely points to why diversifying across both sectors and assets is a proven strategy—it gives us exposure to some outperformance, even in the best of times.
That, in turn, boosts the value of our overall portfolio in the long term while helping cushion us from sudden, nasty downturns like the one at the start of the pandemic. Or, for that matter, the one we’re seeing now.
Plus, these three funds have another compelling feature: big dividends.
Two of them yield over 6%, and one yields 9.5%, so you can see how they don’t just give us the ability to diversify—they also give us the opportunity for a massive income stream that index funds just can’t offer. The benchmark S&P 500 index fund, the SPDR S&P 500 ETF Trust (SPY), for example, yields just 1.2%.
So let’s jump in, starting with the “worst” performer of our trio and wrapping up with our best.
Market-Beating CEF #1: A 6.3%-Paying Tech Fund Returning 25% Annualized
Our first fund returned an astounding 205% over the last five years. That’s mainly because the Columbia Seligman Premium Technology Growth Fund (STK) focuses on tech stocks: Broadcom (AVGO), NVIDIA (NVDA), Microsoft (MSFT) and Apple (AAPL) are all top holdings.
With that in mind, its outperformance is no surprise. But unlike most tech funds, STK yields 6.3%—actually on the low side for CEFs, which yield around 8% on average. Even so this fund remains an unusually powerful way to draw a healthy income stream from the reality of tech encroaching on every part of our lives.
There’s just one issue here: When it comes to CEFs, we always strive to buy when a fund is trading at a discount to net asset value (NAV, or the value of its underlying portfolio) and STK trades near par as I write this.
This may mean STK will see a market-price decline to bring it to the kind of valuation its peers have. But if this smartly run fund hits a 5% discount to NAV or greater, I see it a “no-brainer” buy.
Market-Beating CEF #2: An Energy Fund Dropping a 9.5% Payout
The 31.9% annualized return we’ve seen from the Adams Natural Resources Fund (PEO), which yields 9.5% today, is astounding on its surface. But if you think for a second, it makes sense: Oil was crashing five years ago and actually hit negative prices a couple weeks after the pandemic began.
So crude had nowhere to go but up! And the large cap energy stocks this fund holds—PEO currently has ExxonMobil (XOM), Chevron (CVX) and EOG Resources (EOG)—naturally benefited.
Plus, this fund’s massive 11.7% discount to NAV is a strong value for that huge income stream, which essentially turns gains from energy stocks into income without you having to buy and sell these stocks yourself.
No question about it: Brave contrarians who chose this well-run energy fund five years ago have enjoyed strong gains and healthy income. The fact that we can still get in at a discount means PEO still has appeal, despite that strong run.
Market-Beating CEF #3: Massive Returns at an Unusual Discount
This last fund is our top performer of the three, and what a performance it’s been.
If you’re unfamiliar with PIMCO, it’s a specialist investment firm that operates in the bond market and has a lot of funds that outperform their indices; in the world of credit, it’s considered one of the best, if not the best, there is.
So the outperformance of the PIMCO Dynamic Income Strategy Fund (PDX) isn’t too surprising, but the size of that outperformance certainly is. An unbelievable 47.3% annualized return over the last five years, as of this writing, makes PDX an unquestionably powerful wealth builder. But five years ago, you had to be very brave to buy it.
Consider that PDX invests in junk bonds, and buying at the start of a global pandemic, during which bankruptcies were expected to be the norm, took an iron-willed contrarian indeed.
As I write this, PDX yields 6%. And it’s worth noting that the fund’s payouts have been volatile since its inception in 2019.
However, it currently trades at a 6.8% discount, which is unusual for a PIMCO fund (most trade at a premium), so we’ve got an extra margin of safety and an opportunity for discount-driven upside, too, even after this fund’s incredible five-year run.
Michael Foster is the Lead Research Analyst for Contrarian Outlook. For more great income ideas, click here for our latest report “Indestructible Income: 5 Bargain Funds with Steady 8.6% Dividends.”
Disclosure: none
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