Looking for passive income? Exchange-traded funds (ETFs) are a great choice. These vehicles can instantly diversify your money, minimizing volatility. And if you choose the right ETF, you could earn reliable cash income to last the rest of your life. So what’s the best ETF for permanent passive income? It’s an ETF I’ve had my eye on for decades.
The best investments for permanent passive income
Nothing is ever truly permanent. But if an income stream can be reliable for the rest of your life, that comes pretty close. If you want permanent passive income, look at utility stocks. Utility stocks are one of the best investments on the market today for generating reliable profits.
Utilities provide the basic resources necessary to run a modern economy — things like water, electricity, and natural gas. These services tend to be recession-resistant. That is, during a recession, demand dips very little, if at all. Since 2010, for example, annual electricity demand in the U.S. has remained between 3,856 terawatt hours and 4,067 terawatt hours despite plenty of economic ups and downs.
Just think about whether you cut back on your water or heating usage during a bear market. Perhaps there is a dip in the commercial or industrial sectors, but as a whole, utility demand is remarkably stable regardless of economic conditions.
If volumes are steady, what about pricing? Yet again, there’s good news if you’re looking for businesses capable of delivering steady cash income. Many utility companies are considered “rate regulated.” That means that regulators dictate their profits ahead of time. This is to ensure that customers aren’t taken advantage of, since they often have limited choices when it comes to power or heating.
This regulation caps upside, but it also provides a stable floor for expectations. So utility companies can not only maintain steady volumes throughout any economic conditions, they can also maintain steady pricing.
These factors in combination generate reliable profits for utility businesses. And because these companies have their pricey distribution infrastructure already established, they can return a big percentage of these profits back to shareholders in the form of dividends.
The only thing left to do is find an ETF that automatically gets you invested in dozens of the market’s best utility stocks.
My favorite ETF for long-term passive income
Want to invest in utilities stocks in order to build a long-term passive income stream? Look no further than the Vanguard Utilities ETF (NYSEMKT: VPU). As its name suggests, this ETF invests primarily in utilities — roughly 65 in all. That includes everything from energy utilities like NextEra Energy and Southern Co. to water utilities like American Water Works Co. and Essential Utilities Inc.
Since 2004, the Vanguard Utilities ETF has delivered total annual returns of around 9%. More than one-third of that performance was driven by dividends, which currently deliver a 3.6% yield. That’s lower than some other high-yield options out there, but this is where this ETF shines. Passive income streams should be reliable year to year. But it shouldn’t matter how much of the income stream is delivered via dividends or capital appreciation. In fact, tax laws can actually make capital gains a more attractive option for generating income.
The Vanguard Utilities ETF delivers a healthy mix of both. Roughly one-third of its long-term performance has been driven by dividends, providing regular cold hard cash to shareholders. But two-thirds of its performance has been driven by capital appreciation. You can simply sell shares to generate income from these paper profits, possibly paying less in taxes due to preferential tax treatment on long-term capital gains.
Through both dividends and capital appreciation, the Vanguard Utilities ETF can provide a stable base for you to generate passive income for decades to come. Regardless of where the economy heads, people will be demanding water, heat, and electricity no matter how long your investing time horizon is.
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Ryan Vanzo has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends NextEra Energy. The Motley Fool has a disclosure policy.
Want Decades of Passive Income? Buy This ETF and Hold It Forever was originally published by The Motley Fool
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