Despite recent market volatility, the current business cycle should extend for at least another year, if not longer. The U.S. economy will likely continue to provide opportunities for corporate revenue and earnings growth that can support higher stock prices, but the rate of growth and the rate of stock price appreciation should be slow.
Earnings yield—the earnings per share for the most recent 12-month period divided by the current market price per share—has historically provided a good indication of future stock market returns (Exhibit 1). At current levels, the earnings yield implies that U.S. equities can compound at 5-7% annualized total return going forward, stock market volatility aside.
With this backdrop of ongoing growth, albeit slow, we expect muted price returns going forward. More and more, dividend income will be an important factor in generating total returns.
There are many options available for investors looking for dividend income, and they offer different takes on the space. Consider that some 40 high-dividend-yield ETFs command more than $90 billion in combined assets today. There myriad choices.
Some of the bigger or more interesting ones, in our opinion, are funds such as the iShares Select Dividend ETF (DVY), the ALPS Sector Dividend Dogs ETF (SDOG), the SPDR S&P Dividend ETF (SDY) and the Vanguard High Dividend Yield ETF (VYM).
VYM, the biggest high-dividend-yield ETF, with $21 billion in total assets, and one tied to a FTSE index, ranks companies by forecast dividends over the next 12 months, picking those in the top half. Stocks are then weighted by market cap rather than dividends. It’s a broad strategy that’s also very cheap, at 0.08% in expense ratio, or $8 per $10,000 invested.
DVY, meanwhile, has a strong focus on sustainability of income. It looks for companies that pay steady and rising dividends by using five-year dividend growth, payout ratio and payment history as selection criteria. Securities are dividend-weighted. The strategy is far costlier than competing VYM, at 0.39% in expense ratio.
SDY, picking stocks from the S&P 1500 universe, goes even more extreme on its quest for sustainable income, by investing only in companies that have increased dividends for the past 20 years. The portfolio carries a 0.35% expense ratio.
Finally, SDOG takes a more relative approach, tracking an equal-weighted index of the five highest-yielding S&P 500 stocks in each sector based on the belief that high-yielding equities tend to appreciate faster than lower-yielding equities, according to ETF.com data.
While all these ETFs are interesting options for tapping into dividends, it’s important to remember that these portfolio differences lead to different results, as the chart below shows:
Chart courtesy of StockCharts.com
The S&P 500 Index is a capitalization-weighted index of 500 stocks. The Index is designed to measure performance of a broad domestic economy through changes in the aggregate market value of 500 stocks representing all major industries.
At the time of writing, Stringer Asset Management held SDOG and VYM among its universe of ETFs included in its suite of ETF Portfolios. Stringer Asset Management is a Memphis, Tennessee third-party investment manager and ETF strategist. Contact Stringer Asset Management at 901-800-2956 or at [email protected]. For a complete list of relevant disclosures, please click here.