Investors Alley

With inflation running rampant, the Federal Reserve is responding by ratcheting up interest rates. The result is that mortgage rates have more than doubled over the last year. Higher rates have pushed many potential buyers who could have afforded to buy in 2021 out of the market in 2022.

For a $300,000 mortgage, a buyer who takes out a 6% loan today will have payments that are $600 higher than one with a loan at last year’s 3% rate. As a result, home sales numbers are crashing—down 19.9% as of August, compared to a year earlier.

Us income investors don’t have to worry, though. There’s a whole class of investments that will generate more and more income as the housing market crashes. Here’s my top pick…

For the time being, hopeful home buyers who can’t afford the higher premium payments on a mortgage must continue to rent. And with home purchases becoming increasingly unaffordable in many markets, there is an undersupply of rental homes. As a result, rental rates continue to rise: Apartment Income REIT Corp. (AIRC), for one, recently announced that for August, weighted average rents were up 14.0% compared to a year ago.

You can invest in residential rental housing through real estate investment trusts (REITs). Several REIT subsectors cover residential properties, including apartment REITs like AIRC, as well as single-family home REITs, manufactured home community REITs, and senior living REITs.

There’s now a newer ETF focused on residential REITs: the Home Appreciation U.S. REIT ETF (HAUS), which launched in February 2022.

In hindsight, that timing wasn’t great: HAUS has returned minus 11.8% since the February 28 launch. However, that return is in line with the broader market, with the SPDR S&P 500 ETF (SPY) down 11% over the same period.

Being so new, HAUS assets are very small. I expect the fund to grow over time, but with the market in turmoil, it may take time for the ETF to build up its asset size. I have added HAUS to my Monthly Dividend Multiplier portfolio, with a small start-out position.

HAUS’s top 10 holdings, below, would be a good place to start your research if you want to invest in individual residential rental-focused REITs:

As long as mortgage rates stay high and home prices do not drop significantly, many potential homebuyers will be priced out of the market. That economic reality makes residential rental properties attractive, with growing cash flows and dividends.
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Volatility is back to high levels after the Fed sounded increasingly hawkish after last week’s FOMC meeting. At least one volatility ETF, the ProShares VIX Short-Term Futures ETF (VIXY), saw an unusual increase in options volume during the period. However, it seems there was a fair amount of put buying, suggesting traders believe volatility may

Preferred stock shares feature a mix of common stock and debt security traits.

In other words, they’re the best of the stock and bond worlds, and offer excellent, secure yields… if you understand how they work.

So today, let’s dig into that – and see the two best preferred stocks to buy today…

Preferred stocks pay a fixed dividend rate. A declared coupon rate will be based on a $25 par value. For example, a preferred with a 6% coupon will pay a $0.375 per share dividend every quarter. When interest rates rise, preferred share prices will fall, just like bond prices. If the hypothetical preferred stock trades for $20, then, the current yield would be 7.5%.

Preferred stocks can be callable but do not usually have a mandatory redemption date. This means you may hold a preferred stock position for years and years, collecting nice quarterly dividends. You receive the $25.00 par value if the shares are called in.

With the Federal Reserve raising interest rates, many preferred stocks currently trade for well below their par values. These low prices mean you can lock in very attractive yields. The point to remember is that you don’t know when or if a particular preferred stock issue will be called in. I tell my subscribers that when they buy preferred stocks, they should think of it as buying a long-term income stream. If shares are purchased for $20 and called in at $25, that would be an unexpected, serendipitous event.

With preferred stock prices down, there are some interesting ways to invest in the sector.

The Virtus InfraCap U.S. Preferred Stock ETF (PFFA) pays stable monthly dividends and yields 9.2%. That yield is greater than PFFA’s stable mate, the InfraCap MLP ETF (AMZA), which now yields 8.3%. Historically, AMZA, which invests in energy sector MLPs, carried a much higher yield than the more secure PFFA. The reversal tells me that PFFA is an attractive income investment, now available “on sale.”

Some preferred stocks have fixed coupon rates until their first call date and then switch to a floating coupon rate. The floating rate will be the secured overnight financing rate (SOFR), plus additional interest. SOFR recently replaced LIBOR and will track the Fed Funds target rate. When SOFR/LIBOR was near zero, the change to a floating rate would result in a dividend cut. Now, with rates increasing, if preferred issues let the rates go to the floating rate, the dividends will likely go up. Or the companies will call in the shares.

So, if you buy a fixed to floating rate preferred stock below par, you have the potential for a win-win when the rate switches to floating or the shares are called in. Here are a couple of examples.

The MFA Financial Preferred Series C (MFA.PC) has a 6.5% coupon rate. The shares trade for $18.24, giving a current yield of 8.9%. On March 31, 2025, MFA.PC shares become callable, or the coupon rate goes to SOFR plus 5.345%. If MFA Financial allows the rate to float, and, say SOFR is at 4.0%, the coupon rate would go from 6.5% to 9.345%.

The Rithm Capital Preferred Series A (RITM.PA) shares have a 7.5% coupon rate. The shares currently trade for $21.75 and yield 8.6%. RITM.PA goes callable on August 15, 2024. The floating rate will be SOFR plus 5.802% if the shares are not called. You can do the math.

You should think of preferred stock investments as buying an income stream. There is no certainty that shares will be called in. That said, buying preferred stocks with yields in the 9% range locks in a very attractive income stream.
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There’s a ton of macro factors going on with Europe and the US.  Energy issues… Obvious war going on in Ukraine… Mass inflation on all goods… But I’m looking at something else.  The Euro compared to the US dollar.  On the next page, my free weekly video discusses how the Euro correlates to movement in

Kroger: Inflation Hedge

There is no doubt that in an inflationary environment—such as the one in which we find ourselves now—consumer spending habits are affected. As prices continue to rise, people will stop to consider the things they really need versus the things they would like to have.

For example, when it comes to food, people simply must have it. Still, this doesn’t mean consumers will continue with the same food shopping habits they had when prices were low and stable.

Investors will also find that their spending habits need to change. Instead of pursuing growth stocks at any price, investors need to look to stocks that can offer at least a partial hedge against inflation.

Grocery Store Stocks

One such safe harbor against an inflationary storm you may want to consider is the grocery store sector.

Regardless of what happens in the economy, food is a necessity. That allows grocers to pass along their higher costs from inflation to the consumer. For instance, if you go to the grocery store and the cost of milk is 10% higher, you may buy less of it at a time, but you still need milk so you will buy it.

With inflation still hovering near 40-year highs, consumers are cutting back on discretionary spending to focus on essentials. Many are eating out less and cooking more at home. This is helping to boost grocery store sales. Plus, shoppers are changing what they buy. Rising prices have encouraged consumers to switch to the stores’ cheaper private label brands.

Another reason grocery stocks tend to perform better than the overall market when inflation rises is that most grocery stocks pay a decent dividend to investors.

My favorite company in the sector is Kroger (KR). Here’s why…

Kroger Thriving

The company is the largest standalone grocer in the U.S. It operated about 2,700 retail supermarkets and multi-department stores in 35 states at the end of its 2022 fiscal year.

Kroger’s latest earnings results, which were reported on September 9, 2022, were outstanding. Total company sales were $34.6 billion in the second quarter, compared to $31.7 billion for the same period last year. Excluding fuel, sales increased 5.2% compared to the same period last year. Gross margin was 20.9% of sales for the second quarter. Kroger’s 3.2% quarterly adjusted operating margin rose 22 basis points despite rising labor and product costs.

Management also lifted full-year guidance for the second time in six months. The company now expects $3.95–$4.05 in adjusted diluted EPS ($0.10 higher), with identical sales without fuel to be in the range of 4.0% to 4.5%.

Consumers are switching to the company’s cheaper private label brands. Like-for-like sales of owned store brands rose 10.2% in the second quarter compared with the aforementioned total growth of 5.2%. Despite being sold at a lower price point, private label products tend to yield fatter margins. This was reflected in the 14% jump in Kroger’s operating profit for the quarter.

Kroger continues to generate strong free cash flow and is maintaining its current investment grade debt rating while returning excess free cash flow to shareholders via share repurchases and a growing dividend over time. The company’s net total debt to adjusted EBITDA ratio is 1.63, compared to 1.78 a year ago.

Kroger’s Outlook

I remain very optimistic on Kroger’s outlook going forward. Here is what Morningstar said:

We are encouraged that management indicates Kroger’s pricing relative to competitors is on solid footing, and the company’s increasing reliance on personalized promotions should improve efficiency in its customer acquisition and retention efforts. Kroger has also done well to use its omnichannel flexibility to engage customers across channels, with 8% digital expansion in the quarter. The company’s efforts to extend its digital reach into new markets (spearheaded by its fulfillment centers operated with the U.K.’s Ocado) have met with success according to customer surveys. We continue to believe such work will allow Kroger to realize profitable growth without having to build a store presence in new markets, with the rollout of its Boost program (bundling delivery and additional fuel rewards for $59-$99 per year), building loyalty while contributing to its data analytics strength.

None of this has been lost on investors.

Kroger shares are up around 12% this year, compared to a decline of about 15% for the wider S&P 500. The grocer’s market value has swelled to $36.2 billion.

Yet Kroger is currently trading at a mere 12 times forward earnings. Compare that to big box store competitors, Walmart and Costco, with much racier multiples of 22 times and 38 times respectively.

Turning to the dividend, the stock’s 2.06% dividend yield is higher than Walmart’s and more than double Costco’s!

Earlier this quarter, Kroger increased its dividend by 24%, marking the 16th consecutive year of dividend increases. It pays around 25% of earnings on average as dividends.

Additionally, during the quarter, Kroger repurchased $309 million in shares; year-to-date, it has repurchased $975 million in shares. In fact, the company has repurchased more than $6.5 billion worth of shares over the past five years. And on September 9, the Board of Directors authorized a new $1 billion share repurchase program.

Of course, competition is fierce when it comes to selling food and household essentials. There is Walmart, Target, and Costco—not to mention all of the dollar stores.

But Kroger is showing it can hold its own. High inflation is not going away for a while. This should mean more upside for Kroger stock and a higher dividend payout. The stock is a buy anywhere in the range of $50 to $53 per share.
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A large block trade was placed last week in the beleaguered exercise equipment maker, Peloton (PTON). The 30,000 contract diagonal call spread may suggest there is some medium-term upside in the stock.  The trade also implies there is a limit to how high the stock may climb over the next year and a half. The

The steel industry showed up on the unusual options volume radar last week, with both United States Steel (X) and Nucor (NUE) near the top of the list.  NUE preannounced much lower than expected earnings, and X was expected to follow suit. At least some traders were snatching up blocks of short-term X puts, possibly

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.
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Many don’t follow this one asset… But there’s decades of proof to show that where this one asset goes… things like stocks, bonds, and others tend to follow.  You can pull up a chart of this asset yourself right on your phone or computer.  The asset is contained in just 3 ticker symbols.  But, in