This "Modest" 7.2% Dividend Offers a Rare Bargain in an Expensive Market

Large Cap vs. Small Cap Stocks

• Current Market Trends: Large cap stocks have significantly outperformed small caps in recent years, which is an unusual trend. This has created opportunities for investors to find small-cap bargains, especially as large caps offer high dividends of around 7.2%.
• Small Cap Performance: The iShares Russell 2000 ETF (IWM), which tracks small caps, has a low yield of only 1.1%. However, there are indications that small caps may soon gain traction as investors look for alternatives to the dominant large-cap tech stocks.

The Shift in Investor Focus

• Concentration of Large Caps: The top 10 firms in the S&P 500, including major tech companies like Apple, Alphabet, and Microsoft, account for 25% of the index's earnings and 40% of its market cap. This concentration is seen as unsustainable, potentially leading investors to explore small-cap stocks.
• Potential for Small Cap Growth: As investors shift their focus, small caps could experience significant outperformance, closing the gap with large caps and providing substantial returns.

Investment Opportunities in Small Caps

• Royce Small-Cap Trust (RVT): This closed-end fund (CEF) focuses on small companies with strong cash flow growth and currently offers a much higher yield of 7.2% compared to IWM's 1.1%. RVT has shown a near-10% net asset value (NAV) return, outperforming the small-cap index's 6.6%.
• Market Dynamics: RVT's market price return is up 5.8%, indicating that its shares are not being bid up in line with its fundamentals, leading to a widening discount to NAV, which recently hit double digits.

Income Generation and Investment Strategy

• Income Benefits of CEFs: CEFs like RVT provide a higher income stream, which can help mitigate the volatility associated with small-cap investments. This income can be reinvested or used strategically to balance investments across different assets.
• Future Investment Potential: The article suggests that there are additional high-yield CEFs available, with an average yield of 9.5%, which could generate significant annual dividends. For instance, a $500,000 investment could yield $47,500 annually.

Conclusion

• Strategic Investment Timing: The author emphasizes the importance of acting quickly to capitalize on the current market conditions and the available discounts in CEFs, which could be key to successful retirement investing in 2025.