There are plenty of dividend ETFs in the market, and it can be worth looking beyond the traditional dividend index funds. Some great exchange-traded funds use instruments like preferred stocks and options strategies to produce excellent income streams for investors, and here's a great example of each.
Preferred stocks can be great for steady income
Preferred stocks are an excellent income instrument that aren't well understood by many investors. The short explanation is that preferred stocks are similar to bonds, in the sense that they have a par value and pay a fixed dividend rate. Also like bonds, they don't entitle the owner to a share of the company's profits -- they are strictly designed to produce income. However, in the event of bankruptcy or default, preferred stocks have lower claim to company assets than bondholders, so they tend to have somewhat higher yields.
Income-seeking investors can get exposure to preferred stocks through ETFs, and one excellent example is the iShares Preferred and Income Securities ETF (PFF). The fund owns more than 400 different preferred stocks, many of which are issued by rock-solid businesses like Wells Fargo (WFC -0.91%), NextEra Energy (NEE -0.36%), and JPMorgan Chase (JPM -0.81%), just to name a few.
While its expense ratio of 0.46% is a bit on the higher end for an index fund, it is on par with other specialized income ETFs on the market. As of this writing, the Preferred and Income Securities ETF has an annualized yield of 6.2%, and its share price has significant upside potential as benchmark interest rates (hopefully) fall over the next few years.
Using options strategies to supercharge income
The JPMorgan Nasdaq Equity Premium Income ETF (JEPQ -0.67%) is a Nasdaq-100 index fund with a twist. In order to reduce volatility and generate income, the fund's portfolio manager uses covered call strategies. The income it generates is used to make monthly distributions to investors, and while the income can vary from month-to-month (call option premiums can vary over time), the dividend yield over the past 12 months has been about 9.7%.
The fund owns an equity portfolio that you would expect from a Nasdaq ETF, with top holdings that include Apple (AAPL -1.32%), Nvidia (NVDA -2.09%), and Microsoft (MSFT -1.73%), just to name a few. However, the downside of covered call investing is that you're giving up some of the upside potential in exchange for income. In other words, if the Nasdaq-100 performs well, this index fund should do so also. But if the Nasdaq rockets higher by 20% in a month, for example, don't expect the fund's share price to fully reflect this.
To be sure, this can still be a great ETF to consider. Just be aware that the reduced volatility and greater income compared to a Nasdaq ETF like the Invesco QQQ Trust (QQQ -1.33%) isn't a free lunch. But if you're willing to trade some upside potential for an excellent income stream, the JPMorgan Nasdaq Equity Premium Income ETF could be worth a closer look. Plus, its 0.35% expense ratio is on the low end for an actively managed ETF like this.
Two solid income funds
To be clear, these are two very different income strategies. The preferred stock ETF can best be thought of as a bond replacement -- it's designed to generate steady income year-after-year, and it is only meant to be an income instrument. On the other hand, the JPMorgan fund is certainly the riskier of the two, using technology stocks and options strategies to create both income and upside potential.
So, the best choice for you depends on your investment goals and risk tolerance. But if you're looking to boost your portfolio's income-generation capabilities, these two outside-the-box ETFs could be worth a closer look right now.
