McCall's Call: The Search For Yield With ETFs

August 26, 2010

With Treasurys paying bupkis, where can investors turn for yield?

With the threat of a Treasury bubble growing by the day, it is becoming more difficult for investors to find investments that offer consistent, attractive yields. The dividend payments of any single company can vary and even disappear (think various Wall Street banks during the recent financial crisis).

Matthew D. McCallETFs, however, offer investors an alternative. Because ETFs are inherently diversified and don’t rely on any single company to generate payouts, they offer a more stable income stream to income-hungry investors.

But which dividend ETF should you choose?

Equity Dividend ETFs

Investors who would like to gain exposure to equities and at the same time bring in a solid yield have a few options. The SPDR S&P Dividend ETF (NYSEArca: SDY) comprises the 50 highest dividend constituents of the S&P 1500 Index that have increased dividends every year for the last 25 years. The ETF is heavily weighted toward the utilities and consumer staples; the two sectors make up a combined 40 percent of all assets. The ETF carries an annual expense ratio of 0.35 percent and the annual dividend yield is 3.6 percent.

The First Trust Morningstar Dividend Leaders Index ETF (NYSEArca: FDL) takes a different approach. Through Morningstar’s proprietary screening process, it attempts to build a universe of stocks that have dividend consistency and stability. From there, the top 100 based on dividend yield are selected for the index and thus the ETF. The ETF is currently paying an annual yield of 4.6 percent with a net expense ratio of 0.45 percent. Half of the ETF is invested in the utility and telecommunications sectors, with health care and energy making up another 31 percent.

The iShares Dow Jones Select Dividend Index ETF (NYSEArca: DVY) takes yet another approach to building a portfolio of dividend-paying equities. The index screens a universe of stock for dividend growth rate, payout percentage and average daily dollar trading volume before selecting 100 stocks based on dividend yield. The current dividend yield is 3.9 percent and the expense ratio is 0.40 percent. Utility and goods make up about half of the allocation, again differentiating itself from its peers.

The three ETFs listed in this section are not the only players in the dividend sector; however, they represent the various angles at which investors can achieve exposure to equities and yields. All three ETFs have returned approximately 1 percent year-to-date; last year, however, was a different story, with SDY up 14 percent, FDL gaining 8 percent and DVY returning 6 percent. Of the three listed, my choice is SDY, based on its criteria for choosing the constituents, its low expense ratio and its solid historical returns in up and down markets.

International Dividend ETFs

Investors in search of a yield through international stocks have options as well. The iShares Dow Jones International Select Dividend ETF (NYSEArca: IDV) offers exposure to 100 stocks around the globe for an annual expense ratio of 0.50 percent. Thirty-seven percent of all the stocks are based in
Australia
and the U.K. Financials are the most heavily weighted, at 20 percent of the ETF. The ETF’s 12-month yield is 4.4 percent.

Another choice is the SPDR S&P International Dividend ETF (NYSEArca: DWX), which currently invests in 122 stocks and pays out a dividend yield of 4.2 percent. Australia and the U.K. only make up 19 percent of the ETF; Spain and
France
are the top two countries, accounting for 30 percent of the allocation. Industrials and financials make up about half of the ETF, which charges an expense ratio of 0.46 percent.

The returns on the two ETFs have been similar over the last two years, as are their expense ratios and dividend yields. For me the choice comes down to country allocation and sector allocation. I would lean toward DWX because of its high exposure to industrials and financials, which I favor in the year ahead.

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