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Taking dividends and tax advantages
Posted By Christopher Grey On 12/20/2010 @ 8:22 pm In Commentary | Comments Disabled
The Gabelli Utilities fund is a good way for dividend-oriented investors to make a great yield that is tax advantaged as well as enjoy potential upside.
This fund pays a 13.2 percent dividend yield as of the last closing price. A portion of this is return of capital, which is non-taxable. The rest is tax advantaged at a maximum rate of 15 percent, or 0 percent for low-income investors whose marginal tax rate for ordinary income is below 25 percent.
These low tax rates will continue for at least another two years based on the recent tax deal in Washington.
Just the tax savings alone make this a solid investment for income-oriented investors. Compared with taxable bonds or REITs, which are taxed as ordinary income, you would need a yield of at least 15 percent or even as high as 18 percent, depending on your tax bracket and in which state you reside, to receive the same after-tax income as you would from GABUX.
Even if you focus on tax-free bonds, you would need a yield of at least 11 percent, which you’re not going find anywhere in municipals without using a lot of leverage. Using leverage obviously increases the risk. Most municipal bond closed end funds that use leverage fell 60 percent or more, including dividends, during the financial crisis.
Consider also that bonds and pure income oriented plays have been under selling pressure now for several weeks. If the economy continues to recover, this selling in bonds, especially long-term bonds that are considered safe such as Treasuries, could get worse and result in large mark to market capital losses for investors.
GABUX has held up very well and even risen during this selling in bonds because it is tied more to equity markets. It provides some of the best of both worlds, a large income component to protect on the downside with an equity exposure to participate in the upside of the market and insulate from capital losses income investors may face as interest rates rise.
Also, because GABUX owns some energy and telecom stocks as well as utilities, and it focuses on acquisition targets, it has outperformed the utilities index as well as the S&P 500 this year. This is an impressive achievement given that GABUX has much lower volatility, as well as lower beta, than both the SPDR Select Utilities and the SPDR S&P 500.
Combined with the large dividend yield that is tax advantaged, the overall risk of owning GABUX is much lower than owning the SPDR Select Utilities or the SPDR S&P 500.
Beta and volatility of most REITs, including the iShares Dow Jones Real Estate REIT index ETF, is also much higher than GABUX as well as having a much lower yield that is not tax advantaged. Since it is a more conservative alternative, this fund does tend to perform relatively worse when the market is going straight up. However, that is true for most low beta securities.
Of course if the overall market declines, this fund will also go down. It fell about 25 percent, including dividends, during the financial crisis, but many other funds fell 50 percent to 80 percent. In fact, most assets, even a supposed safe haven like gold, fell by more during the crash of 2008 and early 2009. During that period, you probably lost a lot of money unless you were in cash, short risky assets, or owned Treasuries. So this fund also did relatively better than many alternatives during that extremely difficult period.
This fund has been around for about 13 years, has about $1.1 billion in assets, and has outperformed SPDR S&P 500 and SPDR Select Utilities over the long term of 3 years, 5 years, and 10 years as well.
Overall, this is a solid income investment for long-term investors. It won’t make you rich, but it is likely to provide a much better return with lower risk over many years than most other income oriented alternatives right now. I own this fund for myself and will probably continue to hold it as long as the tax benefits are in place.
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