All things held equal, what makes an S&P 500 dividend stock more attractive? Lower interest rates.
And thanks to the Federal Reserve's recent rate cut, lower interest rates are here and dividend ETFs are getting another look. You can't get a 5% risk-free return on savings accounts anymore. So now the 2.2% yield paid by the 10 largest dividend ETFs is more compelling. They also top the 1.2% yield of the S&P 500.
Additionally, large S&P 500 companies like Microsoft continue to raise their dividends this year.
"As interest rates fall and bonds provide lower yields, investors can benefit from the stable income generation and capital appreciation potential of dividend ETFs," said Todd Rosenbluth, director of research at TMX Vetta Fi. "S&P 500 ETFs offer a low yield of 1% but dividend ETFs provide much more and still offer equity exposure."
Time For S&P 500 Dividend Stocks?
Facing stiff competition from investments paying high yields, dividend ETFs have struggled. The 10 largest dividend ETFs only rose 13.8% this year on average. The top-performer is the $14.3 billion-in-assets WisdomTree U.S. Quality Dividend Growth Fund, which is up 16.7%.
But all the dividend ETFs' performances trail the S&P 500's 18.2% gain this year. Large growth stocks, many of which pay only small dividends or none at all, continue to power the S&P 500 higher this year.
And that's where dividend ETFs part company with the S&P 500. For instance, the top three holdings in the $85 billion in assets Vanguard Dividend Appreciation ETF are also giants in the S&P 500: Apple, Broadcom and Microsoft. But it's overweight in financials like JPMorgan Chase and health care like UnitedHealth.
Choosing A Dividend ETF
There are two main types of dividend ETFs. Some focus on dividend growth. And others target dividend yields.
Dividend growth ETFs are performing generally better this year than the rest. They have the freedom to own S&P 500 tech stocks — often with small dividends — that are leading the market.
"Dividend growth ETFs focus on a company's record or potential of growing the dividend annually," Rosenbluth said. "Some like the ProShares S&P 500 Dividend Aristocrats, SPDR S&P Dividend and Vanguard Dividend Appreciation require a company to have a decade or more of consecutive dividend growth."
On the other hand, some investors are looking to own a basket of stocks with high yields now. The $19.9 billion in assets iShares Select Dividend ETF is the highest yielder among the 10 largest dividend ETFs. It's yielding 3.31%.
ETFs are well suited for capturing dividends as they spread risk by owning tens if not hundreds of stocks. That helps control the risk that any one company might cut its dividend. It also blunts the risk of shares of an individual stock tanking on bad news.
"For a low cost you can benefit from the diversification of owning several dozen (dividend-paying stocks) to help spread around your income stream and reduce the risks of a stock decline or a dividend cut," Rosenbluth said.
Will Dividends Finally Get Appreciated?
Conditions have looked favorable for dividend ETFs before. But that doesn't mean they'll catch on.
The 10 largest dividend ETFs are up an average of just 56.7% in the past five years. That trails the S&P 500's 86.5% gain in that time period. And dividend cuts are always a risk.
"Unlike diamonds, dividends are not forever," Rosenbluth said. "Companies with high yields often have to cut the dividend."
Largest Dividend ETFs
| ETF | Symbol | Assets ($ billions) | Yield % |
|---|---|---|---|
| Vanguard Dividend Appreciation | VIG | $85.0 | 1.70% |
| Schwab U.S. Dividend Equity | SCHD | 60.1 | 3.37 |
| Vanguard High Dividend Yield | VYM | 57.7 | 2.81 |
| iShares Core Dividend Growth | DGRO | 29.8 | 2.19 |
| SPDR S&P Dividend | SDY | 21.4 | 1.80 |
| iShares Select Dividend | DVY | 19.9 | 3.31 |
| Schwab Fundamental U.S. Large Company | FNDX | 16.6 | 1.70 |
| WisdomTree U.S. Quality Dividend Growth Fund | DGRW | 14.3 | 1.53 |
| ProShares S&P 500 Dividend Aristocrats | NOBL | 12.5 | 2.00 |
| First Trust Rising Dividend Achievers | RDVY | 11.6 | 1.83 |
