BERKELEY HEIGHTS, N.J. (TheStreet) -- The Federal Reserve's monetary policy is to keep interest rates extremely low to stimulate the economy. How low are interest rates as a result of decisions at Ben Bernanke's Fed? The average taxable money market fund pays 0.02% and two-year U.S. Treasurys yield a miniscule 0.34%. So a $1 million portfolio invested in two-year Treasurys today would generate roughly $3,400 in annual income. Even worse, those yields are pretax, so the net yield to an investor is even lower.
Making a few simple tweaks can yield a much better income stream on that same $1 million portfolio, though as always extra return comes with additional investment risk.
|Federal Reserve Chairman Ben Bernanke and policies at the Fed have kept interest rates -- and yields -- low on Treasurys and cash.|
The answer, and risk, lies in diversifying beyond risk-free assets such as cash or U.S. Treasurys. A good place to start is with a U.S. short-term bond mutual fund or exchange-traded fund. The Vanguard Short Term Bond ETF (BSV) yield as of June 24, according to Morningstar (MORN), was 2.1%. This fund also has a low duration (2.6 years), so it will be less susceptible to rising interest rates than bond funds with a longer duration.Moving further out on the risk spectrum, an investor could add a U.S. intermediate bond fund such as Vanguard Total Bond Market ETF (BND). The fund as of June 24 was yielding 3.3%. The duration of this fund is in the 4.5-year range, which means it is more sensitive to rising interest rates. World bond funds can also be added to the mix to increase yield and potentially hedge against a declining U.S. dollar. For investors willing to take on even more risk, consider adding a U.S. large-cap ETF such as Vanguard Dividend Appreciation (VIG). This ETF's dividend yield is just shy of 2% and provides additional upside in the form of capital appreciation. This fund aims to provide a quality dividend yield from strong companies by looking for companies that have increased their dividends for the past 10 years. Given the likelihood of rising interest rates, an allocation to a quality dividend-paying equity ETF makes sense. Since this is an equity-based investment, an investor is obviously subject to equity-market risk. In 2008 this fund declined roughly 27% -- vs. 37% for the S&P 500, but retirees still have to consider their stomach for risk before investing.
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