Big Dividend ETFs: More Total Return and Less Yield?

In a stock market that is never short of drama, ETFs that attract advisors and investors with strong dividend yields have had their own enticing story the past several years. It wasn’t long ago before their best “selling point” was a high annual income payout versus near-zero yields on most of the bond market. 

But then, like a new kid that comes to school from out of town and gets all the attention, the Fed’s 11 rate hikes in 2022 and 2023 prompted the arrival of a new, fierce competitor for dividend stock ETFs. Those funds that invest in U.S. Treasury Bills, such as the $19 billion iShares Short Treasury Bond ETF (SHV), which owns bills from one to 12 months maturity, literally had a yield of zero in late 2021. Its 12-month trailing yield is now over 5%.

That competition, plus the havoc wrought by rising rates and a stock market almost singularly focused on big technology stocks that pay little or no dividend yield, ushered in a very difficult period for dividend yield ETFs, including market leaders like the $60 billion Schwab US Dividend ETF (SCHD). From the start of 2022 through mid-August of this year, a period of more than 31 months, SHV and SCHD delivered virtually the same total return, about 9% (not annualized) over that time.  

Dividend ETF Rally Erases Past Losses

If we put ourselves in the shoes of an advisor and client meeting to discuss performance, a fact like that probably does not sit well for a few reasons. First, investors tend to be less patient than in the past. So, a return that equates to under 4% per year does not inspire good feelings.  

In fact, it took a huge rally for SCHD and its peers just to get back to break even, with SHV following the losses of 2022. 

With so many advisory clients nearing or entering their spending years, seeing a lifetime of wealth accumulation perform like that—not quite a 3-4% yield, essentially all the return since 2022—isn't a consolation prize. In other words, dividend yield seems like a great investment concept until one gives back all of that and more in a volatile market.  

In addition, seeing tech stock roar likely created some FOMO for investors heavily weighted in yield stocks. Add to that the prospects for dividend ETFs, with many selling at mid-to-high-teens price-earnings multiples, and they don’t appear to be extremely cheap. Dividend stocks tend to exhibit lower earnings growth, so they are not dramatically cheap.

This all adds up to a quandary for dividend ETF investors and advisors who key in on that part of the market to invest client equity capital.

Advisors: Pay Close Attention to Dividend ETFs

Should this prompt advisors to think differently about dividend and dividend growth strategies? I’d say that’s a yes but with an explanation needed.

I used etf.com’s screener tool to identify seven U.S. dividend equity ETFs with at least $5 billion in assets under management. SCHD was one of them, and it yields about 3.9%. The whole group I filtered down to is shown here:

Source: etf.com

The SPDR Portfolio S&P High Dividend ETF (SPYD) yields about what T-bills now do, but investors should keep in mind that this ETF is more of a straight yield screen, resulting in the 80 highest yielders within the S&P 500. Many of the most popular dividend ETFs only yield 2.8%-3.9%. Will it be enough to keep them popular with advisors and investors?

A New but Uncertain Era for Dividend ETFs

That may depend more on the extent to which high-yielding market sector start to compete better with technology and other more growth-oriented parts of the U.S. stock market. That might be starting to happen as part of the “broadening out” narrative we hear so much about lately, where the stock market is not simply powered by a small number of equity giants.

The combination of higher bond rates, dividend stock performance that looks good recently, but has been mediocre for nearly three years, and potentially shifting stock market sentiment all add up to an interesting autumn for dividend ETFs.  

As such, advisors would be wise to discuss these types of critical junctures with clients, to be ahead of the next moves in this volatile and rare journey, in a new era of non-zero T-bill rates.