Invest Wisely: Moderate Risk, Smart Rewards

Investing with moderate risk can be a great way to add a touch of spice to your portfolio without taking on too much volatility. Moderate-risk investments aim to provide moderate current income with moderate interest earned and are suitable for those who can tolerate small market fluctuations. They are often a combination of stocks and bonds, with an almost equal mix of both. While there is no such thing as a risk-free investment, moderate-risk investments offer a balance of safety, liquidity, and potential returns. Examples include corporate bonds, preferred stocks, dividend-paying stocks, and funds.

Corporate bonds

The risk level of corporate bonds depends on the company issuing them. Bonds from well-established, high-quality companies with a long track record of repaying their debts are considered a safe investment. Credit rating agencies, such as Moody's, assess the creditworthiness of companies, with Moody's highest rating, Aaa, reserved for companies with the lowest level of credit risk. Investing in corporate bonds from these top-rated companies is generally considered a moderate-risk venture as the risk of default is relatively low.

However, it's important to remember that corporate bonds are not entirely risk-free. If a company declares bankruptcy, it may default on its debt obligations, resulting in a loss for bondholders. Additionally, corporate bonds are a multi-year commitment, and investors won't realise their full gains until the bonds reach maturity.

When considering investing in corporate bonds, it's crucial to assess the creditworthiness and financial health of the issuing company. Examining credit ratings from agencies like Moody's can provide valuable insights into the risk profile of a particular corporate bond. Diversification is also key—investing in a range of corporate bonds from different companies and industries can help mitigate the impact of any single bond default.

In summary, corporate bonds offer a moderate level of risk and can be a valuable addition to a well-diversified investment portfolio. They provide a fixed rate of return, and investing in high-quality companies can further reduce the risk while still offering higher returns than low-risk alternatives.

Preferred stocks

Dividend structures can also vary for preferred stocks. Some have fixed coupons that keep the dividend amount steady, while others have variable rates that adjust based on a benchmark interest rate.

As with any investment, there are risks to consider with preferred stocks. One big risk is that preferred stocks are often sensitive to changes in interest rates. Since preferred stocks often pay dividends at fixed rates, share prices typically fall as prevailing interest rates increase. For example, if Treasury bond yields increase and approach a preferred stock's dividend yield, demand for the shares will likely decline, sending its share price lower.

Another factor to consider is call risk, as issuing companies can redeem shares as needed. This can happen when interest rates fall, and the company may redeem those shares for a specified price and issue new shares with lower dividend yields.

Preferred stock exchange-traded funds (ETFs) provide a simpler way to invest in preferred stocks by pooling a diversified basket of preferred stocks and leaving selection and portfolio management to professionals. Examples of preferred stock ETFs include the iShares U.S. Preferred Stock ETF (PFF) and the First Trust Preferred Securities and Income ETF (FPE).

Dividend-paying stocks

Dividends are generally paid out on a monthly, quarterly, semi-annual, or annual basis. The amount received depends on the number of shares owned in the company. Dividend-paying stocks deliver regular payments to investors and can be an essential part of portfolios. For example, investors who are many years from retirement often reinvest their dividends to boost returns. Dividend yields for many of the largest US companies tend to be lower than 2%. As of October 2024, the average dividend yield of S&P 500 companies was 1.25%.

There are several key ratios that investors can calculate to assess the stock's dividend reliability and attractiveness, including dividend yield, dividend payout ratio, dividend growth rate, dividend coverage ratio, earnings yield, price-to-dividend ratio, and debt-to-equity ratio.

When investing in dividend-paying stocks, it is important to remember that dividends are not guaranteed. Companies will only pay dividends to investors when they have profits to share. If a company's profits decline, dividends paid to shareholders are likely to decline as well. Additionally, high-value dividends may indicate that the company is financially healthy, but they may also suggest that the company has no future projects planned and is instead using its cash to pay shareholders.

Overall, dividend-paying stocks can be a good option for investors seeking moderate-risk investments. They offer the potential for incremental income and tax credits, help in stock evaluation, and reduce risk and volatility within an investment portfolio. However, it is important to carefully evaluate the company's financial health and consider that dividends are not guaranteed when investing in dividend-paying stocks.

Funds

Index funds are made up of stocks from a particular index and mirror the success of that index. ETFs offer a lower minimum investment than other funds and can be traded throughout the day like stocks. Mutual funds, on the other hand, are actively managed and result in higher fees. Over time, these higher fees can eat into your returns, so it's important to look for inexpensive, passively managed funds with low expense ratios.

Examples of funds include dividend funds, which are made up of stocks with high and reliable dividends, and bond funds, which are made up of various bonds.

When investing in funds, it's important to have a long-term horizon and a diverse portfolio to balance risk and reward.

Blue-chip stocks

One example of a moderate-risk blue-chip portfolio is the Blue Chip Portfolios moderate-risk ETF model portfolio. This portfolio has a traditional 60/40 structure, with 60% invested in the Vanguard Total Stock Market Index Fund ETF (VTI) and 40% in the iShares Core U.S. Aggregate Bond ETF (AGG).

It's important to diversify your investments and not assume that all blue-chip stocks offer guaranteed safety. A diversified portfolio usually contains some allocation to bonds and cash, and investors should also consider owning mid-caps and small-caps.

While blue-chip stocks are generally considered safe, some are on the fringes and may have lower credit ratings. Therefore, investors should conduct thorough research and due diligence before investing.

Frequently asked questions