After the inflation numbers came out last Tuesday, the Dow Jones Industrial Average (DJIA) futures dropped by 700 points in minutes—from above 200 points to the positive to more than 500 points down.
The inflation rate of 8.3% was higher than the expected 8.1%. As one TV expert noted: “The future is messy.”
Truer words were never spoken.
Even if the future is messy and it’s hard to guess what will happen, there are investment strategies that will get you through the next couple of years and beyond.
Let’s take a look at my favorite one…
Stubborn inflation (which very much was the case for August) will force the Federal Reserve to increase interest rates aggressively. I expect short-term rates to reach at least 4.0%. The current federal funds rate sits at 2.5%. With the potential for two 75 basis point increases this year, it is very probable that we will go into 2023 with the Fed funds rate at that 4.0% level.
One takeaway about investing in a world with 4% to 6% interest rates is that investment strategies that worked for the last bull market, from 2009 until the end of 2021, will not work out nearly as well in the messy future.
My long-running Dividend Hunter strategy focuses on building a high-yield income stream. If you invest for income, you will see your portfolio income stable and growing quarter after quarter—no matter what happens in the “messy” stock market. In fact, once you get your high-yield investment strategy up and running, the market downturns become opportunities to grow that income even faster.
For individual investment ideas, look for companies that benefit from higher interest rates. These are not tech companies. You want to find lenders or money management companies that use variable rate loans to lend money and have low leverage, fixed-rate debt.
By law, business development companies (BDCs) must keep leverage low and pay out 90% of their net investment income as dividends. Most BDCs lend with variable rate loans, which means as rates go higher, so will net investment income and the dividends BDCs pay.
Here are a couple of examples in the BDC universe:
Blackstone Secured Lending Fund (BXSL) is a newer BDC that launched about a year ago after Blackstone rolled together a couple of smaller BDCs. On September 7, BXSL announced a 13% dividend increase; the shares currently yield 10%.
Hercules Capital (HTGC) pays a regular quarterly dividend and will pay supplemental dividends on top of its regular payout. This year HTGC increased its regular dividend by 6% and announced special dividends equal to an additional two-quarters of its regular dividend rate. On the regular dividend alone, HTGC yields 9.9%.
Because of the war between inflation and the Fed, I expect stock prices to remain messy, choppy, and volatile well into 2023. It will be an excellent period to build up an income portfolio, taking advantage of lower share prices and higher yields.