Despite continued predictions of rising interest rates, yields on fixed income securities remain near historic lows, leaving advisors scrambling for ways to generate income in client portfolios without taking on too much risk.

ETF sponsors such as Guggenheim, iShares, SPDR and First Trust are tapping into that need with the growing number of offerings that fall under the banner of multi-asset-income exchange-traded funds. The etf.com database lists about a dozen such ETFs, most of them launched in the last two years.

Unlike most ETFs, which focus on a single sector or asset category, the members of the multi-asset-income clan generate yields of anywhere from 3.5% to more than 6% by combining a number of asset classes such as high-dividend-paying stocks, real estate investment trusts, master limited partnerships, preferred securities and bonds. By investing in multiple asset classes with a low correlation to each other, these ETFs aim to provide income well above what investors can get from the fixed-income markets, but without betting the ranch on one type of investment.

“If a client says he needs more investment income, this is a better alternative than going into a single asset class to get 5% yield,” says William Belden, managing director of Guggenheim Investments, which offers two multi-asset-income ETFs. “It’s a means to getting a higher yield without going off the risk spectrum in fixed income or REITs.”

The notion that different income-producing asset class returns will offset each other at various points in time has proved itself over the last five years. During that time, the correlation to stocks has been 0.63 for master limited partnerships, 0.76 for real estate investment trusts and 0.56 for preferred stocks. And at a time when 10-year Treasury securities pay a bit more than 2%, yields two to three times that level look awfully attractive.

At the same time, it’s hard to predict how multiple asset ETFs would react if rates rise, since they are too young to have endured such an environment. Their expense ratios, which range from .60% to .87%, are at least twice as high as those of broad equity and many single-sector ETFs. And because bond yields are so low, many rely heavily on dividend-paying stocks to jazz up yield.

Robert Williams, principal at Sage Advisory Group, sees that as a problem. His firm, which specializes in ETF income strategies for institutions and financial advisors, says that many of these ETFs are riskier than they appear at first glance because of their stealth equity exposure. Because high-yield investments such as real estate investment trusts and master limited partnerships have some correlation to the overall market, he says, a downturn would ding them too.

Instead of using multi-asset ETFs, Williams’ firm assembles more conservative multi-asset-income ETF portfolios consisting of 70% to 80% diversified fixed income and 20% to 30% dividend-paying stocks, real estate investment trusts and master limited partnerships. At under 3%, the overall portfolio yield falls far below what multi-asset-income ETFs produce. But in the long run, he believes, taking risk down a few pegs is worth the lower yield.

“You have to weigh the desire for higher income against the likelihood of higher volatility it takes to achieve it,” he says. “Without a sizable core fixed-income component, these multi-asset-income ETFs could deliver negative surprises.” Nonetheless, he sees them as a potential alternative for income seekers who don’t want to assemble a portfolio of ETFs themselves.

Others, such as Jeffrey Walker, portfolio manager at Global Financial Private Capital, take a more favorable view. Walker uses a multi-asset ETF for portfolios that require a higher-than-average level of income and finds it useful as part of a conservative equity income allocation. “I look at it as a core diversifier that automatically rebalances and has good yield and performance,” he says. “And if I want to emphasize particular income areas, I can overweight or underweight individual equity or fixed-income sectors with other securities.”

Different Paths To Yield
A look at two of the largest multi-asset-income ETFs highlight how widely strategies can vary. At $1.3 billion in assets, eight-year-old Guggenheim Multi-Asset Income (CVY) is the oldest member of the group. It has a 0.82% expense ratio, and a 30-day SEC yield of 5.5%. Launched in 2012, First Trust Multi-Asset Diversified Income (MDIV) has $786 million in assets, a 5.81% yield, and a 0.60% expense ratio.

Based on the Zacks Multi-Asset Income Index, which consists of approximately 150 securities, the Guggenheim ETF consists of U.S.-listed common stock (55%), real estate investment trusts (9%), master limited partnerships (9%), closed-end funds (10%), American Depository Receipts (ADRs) (10%), Canadian Royalty Trusts (1%) and preferred stocks (6%).

 

With roughly two-thirds of its assets in stocks and ADRs, this ETF is firmly grounded in the equity markets. It also tilts heavily toward energy-related investments such as energy stocks and master limited partnerships. According to the firm’s latest fact sheet, about one-quarter of assets are in traditional energy stocks, with another 20% in investments related to oil and gas storage and transport, oil and gas exploration and production, and integrated oil and gas. Another 36% of the portfolio is in the financials sector.  

At $786 million in assets, First Trust Multi-Asset Diversified Income (MDIV) has target allocations of 25% for common stocks and ADRs, 20% for real estate investment trusts, 20% for preferred securities, 20% for master limited partnerships and 15% for bonds. The bond sleeve is filled through a single investment, the iBoxx $ High Yield Corporate Bond ETF. The common stock basket has about 50 holdings, and the rest have 25 holdings filtered for yield and other criteria.

Matthew Sauer, chief investment officer at the ETF Investor Guide newsletter, points to the First Trust offering as the more diversified of the two. Because bonds and preferred securities occupy substantial real estate in the fund, it has the potential to be less volatile.

“The portfolio is well diversified across income-producing securities, with hefty exposure for each asset class,” he noted in a recent blog.

“Its low-volatility approach has worked in the past, and aside from periods of major financial market stress such as 2008, it will continue working in the future. A longer track record of rising dividends would be encouraging.” On the other hand, he pointed out that with its heavy emphasis on equities and minimal bond exposure, the Guggenheim ETF could hold up better than other multi-asset ETFs in a rising rate environment.

A number of smaller multi-asset ETFs, most introduced in the last year or two, have assets ranging from about $100 million to $200 million. Arrow Dow Jones Global Yield ETF (GYLD) achieves a yield of around 6% by splitting the portfolio in equal proportion into global corporate debt, global alternative, global equity, global real estate and global sovereign debt. With 57% of its assets in non-U.S. markets, and significant exposure to non-U.S. currency, the fund has broad exposure to foreign markets. At the more conservative end of the spectrum is the iShares Morningstar Multi-Asset Income (IYLD). Its split of 60% bonds, 20% stocks and 20% alternative income produces a yield of 6.4%, and it has an expense ratio of .65%.

Rather than maintain a static asset allocation, some newer funds launched earlier this year move things around more with active allocation management. Launched in August, WBI Tactical High Income Shares (WBIH) caps equity and bond exposure to 80%, including securities often found in the multi-asset space such as master limited partnerships and high-yield bonds. It also has a stop-loss discipline to limit losses. At 1.08%, its expense ratio is on the high side, but time will tell if it’s worth it.

Managers of another actively managed offering, First Trust Strategic Income (FDIV) can also shift allocations. According to the fund’s latest fact sheet, its largest allocation is dividend-paying equities (27%), followed by master limited partnerships (22%) and preferred securities (17%).

Two smaller international and global multi-asset ETFs round out the roster. The $13 million First Trust International Multi-Asset Diversified Income ETF (YDIV) has an expense ratio of .70% and a yield of 4.2%, while the $32 million Guggenheim International (HGI) has an expense ratio of .83% and a yield of 3.9%.

While diversification is marketed as a drawing card for all of these ETFs, it’s important to note that an unusually prolonged period of low interest rates have pushed up valuations, as well as correlation, across a wide variety of income-producing securities. All of them will be vulnerable if rates rise and income seekers abandon more exotic fare to return to old-fashioned CDs and bonds.