Diversify Your Portfolio: Beyond AI Stocks with Treasury Bills and Dividend-Paying Companies
How to maximize returns and reduce risk with diversified investments beyond AI stocks.
By now, you’ve probably heard of the chip maker Nvidia. And if not, at the very least, you’re somewhat familiar with the massive explosion of AI products and services in the corporate world.
This AI mania has been the single driver in getting the stock market out of a bear market, simply defined as a 20% rally from a market low. From October of 2022 until today, the S&P 500 Index has rallied over 20% from just under 3500 to over 4400. This is an incredible move in the index except for one thing, only seven companies (Apple, Amazon, Alphabet, Meta, Nvidia, and Tesla) are responsible for almost all the gains. These companies also make up 27% of the index. If you don’t own any of these growth companies in your portfolio, your 2023 returns might be flat or slightly negative. That’s why it’s so crucial to diversify your portfolio.
This same thing happened during the 1999 Dot.Com period when technology stocks were up 80%. And we all know what happened after that. It was a blood bath for investors, as the S&P 500 Index was down 50%. When one sector is completely dominating the market, it is known on Wall Street as “bad breadth,” which means very few companies are responsible for almost all the gains in the index. This is exactly what we have today.
So, what are investors supposed to do with their money now? The good news: treasury bills, international stocks and dividend-paying stocks are cheap. This is why 2023 is a great time to diversify your portfolio, particularly if you already have enough exposure to tech and AI stocks. It is time to broaden your investment holdings and find stocks that haven’t participated in this narrow rally.
Three-month and six-month treasury bills are paying yields of 5.2% and 5.3%, respectively. Since the debt ceiling crisis has been resolved for now, these fixed-income investments are safe to buy again. Because of the inverted yield curve, you get paid a higher interest rate by staying short rather than buying two-year, five-year or 10-year bonds, which is not usually the case.
At their last meeting, the Federal Reserve said they would raise short-term rates two more times in 2023. If this does happen, treasury bill rates could be even higher when these short-term bonds mature. If that happens, when your three-month bills mature, you can reinvest at a higher interest rate. Short-term treasuries are a great alternative to cash earning very little in a bank. They also tend to act as a pure hedge to stocks in a time of a Black Swan event or liquidity crisis.
International stocks have been out of favor for well over a decade and have underperformed U.S. stocks by a two-to-one margin. Their PE, or price-earnings ratios, are much lower at only 12 vs. the U.S. at 22. Their dividend yields are 1.5% higher, and international companies are more orientated to value stocks in the defensive dividend sectors of the market. These companies tend to be in the consumer staples, finance, energy and industrial sectors. The U.S. indexes tend to be heavily concentrated on AI and technology companies. If there is just a slight reversion to the mean or even a weaker dollar, international stocks could outperform their U.S. counterparts.
What investors have missed this year is how cheap dividend-paying stocks have gotten. Looking at a dividend exchange fund versus the S&P 500 Index tells the story. VYM, the Vanguard High Dividend Yield Index Fund, yields 3.26% and is down 1.03% YTD vs. SPY, the SPDR S & P 500 EFT Trust, which only yields 1.55% and is up 14.91% YTD. Companies in the energy, healthcare, finance and industrial sectors are trading at PE ratios of 7-10 versus 22 and have dividend yields of 4%-6%. There is no reason not to own a few of these companies and collect great income until there is a sector rotation out of AI/tech into these companies because they are just too cheap to ignore.
Now is the time to diversify your portfolio with asset classes, countries and companies that pay meaningful dividends. Owning treasury bills can be a great alternative to cash; now that the debt ceiling crisis has passed, they are safe too. International stocks are a smart way to hedge a weaker U.S. dollar and get exposure to companies outside of the growth/technology arena. Finally, why not buy a few great U.S companies that pay meaningful dividends and have a history of increasing their dividends annually.
Fred Taylor is a Partner and Managing Director at Beacon Pointe Advisors, LLC. The information contained in this article is for general informational purposes only. Opinions referenced are as of the publication date and may be modified due to changes in the market or economic conditions and may not necessarily come to pass. Forward-looking statements cannot be guaranteed. Past performance is not a guarantee of future results. Beacon Pointe has exercised all reasonable professional care in preparing this information.