Equity-income funds were a safe harbor for much of this year, sheltering shareholders from the market's choppy waters.

The category scored a 0.95% total return over the 12 months ended Sept. 30, says Lipper Inc. That included 2008's fourth quarter, that year's worst stanza. All other nonspecialty U.S. diversified stock fund groups lost ground -- many, a lot.

Equity-income's relative strength was due largely to the income that its funds aim to funnel to shareholders. It offset part of the period's stock price setbacks.

The category's yield jumped in 2008. Stock prices and fund NAVs plunged faster and sooner than companies cut dollar dividends. Yield is down this year as prices rose while firms kept slashing dividends.

S&P 500 companies alone will lop a staggering $55.8 billion off dividend payments this year vs. 2008, estimates Howard Silverblatt, senior index analyst at Standard & Poor's.

"That will be like a 23% pay cut for dividend recipients," he said.

Yield seekers with flexible strategies have had more choices during the downturn than those locked into rigid sectors or asset classes.

Michael Levine, manager of $448 million Oppenheimer Equity Income Fund (NASDAQ:OAEIX - News), sought preferred stocks in the downturn. He sold them in the summer to return to common stock for the sake of total return.

He got preferreds from banks, even as they cut dividends on their common stock.

"Preferreds were yielding 15% to 30%," Levine said.

By this year's second quarter, Levine's weighting in preferreds was around 20%. That's about double his usual 10%.

Levine bought Bank of America (NYSE:BAC - News) preferreds in Q1. They were issued at a price of 1,000 with a 7.25% coupon. Shares got as low as around 300. At that price, yield was 24.16%. Levine bought between 700 and 800. At 700, yield was 10.4%.

They were trading around 840 going into Wednesday.

"BofA cut dividends on its common," he said. "Preferred had attractive yield with almost all of the upside and less downside."

Positioning For Future

That situation was temporary. Normally, most common stock produces total return that tops most preferreds' total return by far. That's because preferreds have far less price gain potential in a rising market.

That's where the market is headed now, Levine says. "We look at three-year earnings power," he said. "We can get double or triple the total return using common vs. preferred."

Levine went overweight in other big-dividend sectors during the sell-off. He's trimmed some to refocus on total return. He went overweight in consumer staples. He recently added to Kraft (NYSE:KFT - News), yielding 4.2%, when it dipped as it bid for Cadbury (NYSE:CBY - News).

He's still holding McDonald's (NYSE:MCD - News) and Brinker (NYSE:EAT - News).

In addition, he beefed up his stake in tobacco stocks.

Another overweight: telecom. "We like AT&T (NYSE:T - News), with its 6%-plus yield, as a way to play wireless," he said.

He also likes rural telecoms, which often pay high dividends. He is getting double-digit yields from Windstream (NYSE:WIN - News), Frontier (NYSE:FTR - News) and Consolidated Communications (NasdaqGS:CNSL - News).

Moving forward, he also looks to certain tech names for total return, including modest dividends.

He holds Microsoft (NasdaqGS:MSFT - News), Corning (NYSE:GLW - News) and Qualcomm (NasdaqGS:QCOM - News).

Bart Geer, manager of $2.8 billion Putnam Equity Income (NASDAQ:PEYAX - News), focuses more on total return than just yield in all markets. Now that the market is trending higher, he's sticking with many of the plays he made during the downturn.

In financials, he shifted money to property-casualty insurers. Their yield is often lower than banks, but banks were getting clobbered.

He also boosted stakes in utilities, telecom and oil.

Going forward, Geer says, many corporations will do more stock buybacks and tilt away from dividends. Widely expected new rules will boost tax rates on dividends.

Seeking Free Cash Flow

Geer is searching for companies able to generate free cash, which they can use to buy back shares. In health care he bought generic drugmaker Mylan (NasdaqGS:MYL - News), where he started with a yield north of 6%.

In general, prices have already been discounted on health stocks that can be hurt by government reform steps, he says.

Tech is another promising area. He likes Microsoft. "Ten years ago you'd have laughed at me for mentioning tech and yield in the same sentence," he said.

And in traditionally strong dividend sectors, he has stakes in Pepco Holdings (NYSE:POM - News) among utilities, Kimberly-Clark (NYSE:KMB - News) in consumer staples and Raytheon (NYSE:RTN - News) in defense.