Seeking Income with ETFs

Investors can consider several types of investments, including exchange-traded funds (ETFs), to potentially generate income in their portfolios.

When an ETF owns income-producing investments, like bonds or dividend-paying stocks, it passes on that income to investors who hold the ETF’s shares. If you’re looking for ways to potentially generate income with your portfolio—perhaps from dividends or interest earned—here are a few income-earning ETFs to explore.

Bond ETFs allow investors to seek income from a selection of diverse fixed-income bonds available on the market. Set to track bond indices, some bond ETFs may be highly liquid, low-risk, and can pay out monthly dividends.

Here are four types of bond ETFs to consider:

• High yield bond ETFs typically seek to pay investors higher income in return for taking on greater credit risk. The bonds are often issued by emerging or smaller companies, or firms that may have experienced financial difficulties and have lower credit ratings as a result. High yield investments are often referred to as “junk bonds” and are not suitable for all investors.
• International bond ETFs focus on bonds issued outside the US, which may offer attractive yields compared to domestic bonds but also carry additional risks. These bond ETFs may be issued by countries or, more commonly, by non-US firms. 
• Tax-free municipal bond ETFs support and finance the development of projects by state and local entities. These bonds provide potential income that is typically exempt from federal taxes and may also be exempt from state taxes if the investor lives in the state where the bond was issued.
• Government bond ETFs focus on bonds backed by the U.S. government or by government-linked agencies. These ETFs are typically considered lower-risk options, as the U.S. government is unlikely to default on its debt. These ETFs can potentially offer steady income that varies by the interest rate and maturity length of the government bonds that the ETF holds.

An alternative to bond ETFs is equity income ETFs, which aim to generate income primarily by purchasing stocks that pay dividends. An equity ETF can be actively or passively managed. These ETFs can provide investors with exposure to domestic and/or foreign markets, increasing opportunities to earn income from an array of companies.

• Dividend ETFs are designed to hold a collection of dividend-paying stocks. However, dividend pay outs aren’t necessarily always guaranteed. Initially, yields may be relatively low and may come with an expectation of growth over time.
• Dividend appreciation ETFs concentrate on companies that have a history of growing their dividends.

Before you invest in income-earning ETFs, there are important risks that every investor needs to know. Depending on the investment, these risks, among others need to be balanced against potential income that you hope to earn.

• Income risk may not guarantee that any ETF will continue to provide you with income or dividends.
• Inflation risk may reduce the value or buying power of any future income that you may receive. Investors should consider whether inflation may outpace the income provided by a particular investment, especially if the inflation rate rises in the future.
• Interest rate risk may jeopardize the value of your investment due to the volatility of interest rates when investing in an instrument that pays a fixed interest amount. For instance, a fixed interest investment may be beneficial if interest rates fall. However, if interest rates were to rise, such an investment would not reflect the new, higher rates that might be available from interest-bearing investments on the current market.
• Credit risk may compromise your investment if any of the entities held by your ETF are unable to repay their debt. For example, if an investor buys a bond, what is the likelihood that the money is paid back, with interest? Underlying investments in an ETF can suffer from financial hardships or worse, go bankrupt, ultimately weakening the value of the ETF.

Make sure to review the ETF’s prospectus for additional information and risks prior to investing. The fund’s prospectus details investment risks, fees, expenses, and other important information you should consider before making an investment in a particular ETF.

ETFs can provide a variety of potential options for investors seeking to earn income. Understanding your options and considering your financial goals, time frame, and risk tolerance may help inform your investment decisions. Every investor who hopes to generate income should consider which investments work for towards their investment objectives.  

CRC# 3879291 12/2024