If you are visiting this blog, you are probably very interested in the dividend growth investing strategy. Many readers have reached out to me why we don’t forget about individual dividend stocks and just invest in dividend ETFs. After talking to Brian from Frugal Fortunes at FinCon’19, I found that we share similar investment style. Therefore, I invited him to write a post on the Top US Dividend ETFs and reasons why both of us do not simply rely on US Dividend ETFs for our dividend portfolio.
Take it away Brain!
Thanks Bob! For most investors, dividend ETFs are a great way to go. They offer passive income that you can use for living expenses or reinvest to earn even more income. There are plenty of benefits which I’ll show you below. Although, there are also two reasons why I don’t buy US dividend ETFs. Instead, I buy individual value dividend stocks.
Before we get to the pros and cons of each strategy, let’s look at the top five funds. I’ve scanned over 100 available ETFs and hand selected the ones below. I looked at expense ratios, dividend yields, underlying companies, and other factors.
Top US Dividend ETFs
1. Vanguard High Dividend Yield ETF (VYM)
VYM seeks to track the performance of the FTSE High Dividend Yield Index. The fund holds large market cap companies with a value style.
Expense Ratio: 0.06%
Number of Holdings: 418
Top 10 Holdings: JPMorgan Chase (JPM), Johnson & Johnson (JNJ), Procter & Gamble (PG), Exxon Mobil (XOM), AT&T (T), Verizon Communications (VZ), Chevron (CVX), Merck (MRK), Intel (INTC), and Coca-Cola (KO)
Top 5 Sector Weights: Financials (18.1%), Consumer Goods (14.4%), Health Care (12.6%), Technology (10.4%), and Consumer Services (9.9%)
HDV seeks to track the performance of the Morningstar Dividend Yield Focus Index. The fund holds high-quality US dividend-paying companies.
Expense Ratio: 0.08%
Number of Holdings: 74
Top 10 Holdings: Exxon Mobil (XOM), AT&T (T), Verizon (VZ), Johnson & Johnson (JNJ), Chevron (CVX), Wells Fargo (WFC), Procter & Gamble (PG), Pfizer (PFE), Coca-Cola (KO), and Cisco Systems (CSCO)
Top 5 Sector Weights: Energy (21.9%), Communication (16.5%), Consumer Staples (14.3%), Health Care (13.9%), and Financials (10.8%)
3. Schwab US Dividend Equity ETF (SCHD)
SCHD seeks to track the performance of the Dow Jones US Dividend 100 Index. The fund holds dividend stocks based on fundamental financial strength relative to their peers.
Expense Ratio: 0.06%
Number of Holdings: 122
Top 10 Holdings: Procter & Gamble (PG), Verizon (VZ), PepsiCo (PEP), Exxon Mobil (XOM), Coca-Cola (KO), Home Depot (HD), Pfizer (PFE), Intel (INTC), International Business Machines (IBM), and Texas Instruments (TXN)
Top 5 Sector Weights: Consumer Staples (21%), Information Technology (18%), Industrials (16.6%), Consumer Discretionary (10.5%), and Financials (10.3%)
4. SPDR Portfolio S&P 500 High Dividend ETF (SPYD)
SPYD seeks to track the performance of the S&P 500 High Dividend Index. The fund has a higher weighting in real estate compared to the other funds in this list.
Expense Ratio: 0.07%
Number of Holdings: 80
Top 10 Holdings: Newell Brands (NWL), Campbell Soup (CPB), AT&T (T), Entergy (ETR), FirstEnergy (FE), Realty Income (O), Southern Company (SO), HCP (HCP), Kimco Realty (KIM), and Duke Energy (DUK)
Top 5 Sector Weights: Real Estate (19.9%), Consumer Discretionary (16.3%), Energy (11.8%), Utilities (11%), and Consumer Staples (9.9%)
5. Vanguard Dividend Appreciation ETF (VIG)
VIG seeks to track the performance of the NASDAQ US Dividend Achievers Select Index. The fund holds companies that have a record of increasing their dividends year over year.
Expense Ratio: 0.06%
Number of Holdings: 184
Top 10 Holdings: Microsoft (MSFT), VISA (V), Procter & Gamble (PG), Walmart (WMT), Comcast (CMCSA), Johnson & Johnson (JNJ), McDonald’s (MCD), Abbott Laboratories (ABT), Medtronic (MDT), and Costco (COST)
Top 5 Fund Sector Weights: Industrials (26.3%), Consumer Services (20.5%), Health Care (12.1%), Financials (11.7%), and Consumer Goods (10.9%)
Table below summarizes the key parameters for all of these top US ETFs and the S&P 500 for comparison.
Why Not List More Than the Top Five?
In my search for the top US dividend ETFs, I struggled to find ultra-low cost funds. The five ETFs above were the only ones I found with an expense ratio below 0.10% – along with reasonable strategies and scale. Below, you’ll see why low fees are so important.
Also, giving too much information can lead to analysis paralysis. Understanding the way we think is vital to making better decisions in both the investing world and elsewhere in life. I strongly believe the funds above are some of the top choices for both novice and experienced dividend investors.
Thoughts on the Top Dividend Funds
The US dividend ETFs above have both subtle and more pronounced differences. This is due to their different prospectuses. The fund creators and managers have emphasized different dividend investing strategies.
- The underlying holdings vary between the funds. VYM is the most diversified with total number of holdings at 418. Its top sector weight is also the lowest on the list at 18.1%. On the other end, HDV is one of the more concentrated funds with only 74 holdings.
- The top 10 holdings are also more concentrated for HDV. They make up 61.4% of the total fund. The runner up for the largest weighting of top 10 holdings is SCHD at 43.9%.
- HDV is also more concentrated in cyclical stocks with its top sector weighting at 21.9% in energy. So the price of the fund will likely move more in lockstep with the economy and consumer confidence.
- SCHD has a higher sector weighting in consumer staples. The staple stocks can provide a little more downside protection during a recession.
- SPYD is the biggest outlier on this list. Its highest weighting is in real estate and that helps support its much higher dividend yield of 4.7%. Some of the top holdings are real estate investment trusts (REITs). REITs are required to payout 90% of their profits. The funds second highest sector weighting is consumer discretionary. If a recession hits, this will put downward pressure on the fund.
- Although VIG’s dividend yield on the list is the lowest, the fund focuses on companies with faster dividend growth. That’s thanks to it tracking Dividend Achievers, companies that have paid and raised their dividend for the last 10 years. In 2018, VIG paid out $2.038 in dividends. That’s an increase of 46.8% from five years ago ($1.388 in 2013). This dividend growth outpaces many other dividend ETFs.
- Many of the underlying dividend stocks trade at historically high levels when looking at valuation ratios. We’re in the longest bull market in US history and due for a stock market crash. Timing the market is a fool’s game but buying any big basket of stocks today will likely see lower returns.
- Another interesting consideration of the funds above is their age. The Vanguard funds have the longest track record with both of their inception dates in 2006. SCHD and HDV started in 2011 and SPYD is the newest which started in 2015. Although fund age isn’t too big in my decision making, I still like to see a longer history of stability and proven success.
- Vanguard has been a leader in low cost funds pushing the industry forward. Vanguard has a unique ownership structure that limits conflicting loyalties. The company is owned by its funds, which in turn are owned by their shareholders. So this client-owned structure allows Vanguard to return profits to fund shareholders in the form of lower expenses. That’s likely why two Vanguard ETFs make my top five list above.
If you are looking to create a spreadsheet to track all your ETF investments, take a look at this Google Spreadsheet template for ETFs.
Which of the ETFs Would I Buy if Required?
Vanguard has a long history and has been a leader in providing low cost funds. So I’d pick the VYM fund for its track record and largely for its low fee. It ties for first place with SCHD and VIG on lowest expense ratio. Although, the VYM has the highest dividend yield of the three. On top of that, I like VYM’s broader exposure to dividend stocks.
For retirees that are looking for a higher yield, the SPYD fund could be a good bet. As I near retirement and living off of dividend income, that’s a fund I might also consider. It’s the newest fund on the list but it might have a long future.
Why Invest in the Top US Dividend ETFs?
The dividend ETFs above give investors broad exposure to dividend stocks.
This built-in diversification lowers risk. It’s inevitable that some companies have setbacks or failures. And when that happens, other stocks in the ETF can help make up for the losses. As the proverbial saying goes, don’t put all of your eggs in one basket.
On top of the company diversification, most of the US dividend ETFs have some international exposure. Many of the blue-chip stocks in the funds have operations overseas. So buying the ETFs is a great way to access many markets.
Dividend ETFs also offer both stable dividend income and the potential for capital appreciation.
The stock market ebbs and flows in the short-term, but over a decade-plus, you’re likely to see capital returns exceeding the yield. The US stock market has returned 8% annually over the long-term. And over some timeframes, it climbs to an annual rate of 10% plus.
Another benefit to ETFs is their tax efficiency.
The IRS allows for a fund structure that is more tax-efficient than mutual funds. You only realize ETF capital gain taxes when you sell the entire investment. On the other hand, the IRS taxes mutual funds anytime the fund sells an underlying security.
One last big benefit for many ETFs is a lower cost structure.
Due to a passive strategy with many of the funds, management fees are low. On top of that, technology has helped level the playing field by lowering fees. A few decades ago, fund managers would have laughed at you if you asked for an expense ratio below 0.10% – especially as a smaller investor.
Two Big Reasons Why I Don’t Invest in Dividend ETFs
1. Low fees still eat away at returns.
As your portfolio grows, a low percentage fee will take a larger nominal bite out of your nest egg. If you have a $500,000 portfolio, a 0.1% fee is $500 every year. And over 10 years, that’s $5,000 assuming your portfolio doesn’t grow.
Instead, I’ll stick to buying individual stocks. With each purchase, it’s a low one-time trading fee. Many online discount brokers now offer $4.99 per trade. And to get an even better deal, Robinhood offers free trading. At this time, Robinhood isn’t available for Canadian dividend investors but you can find other free Canadian trading platforms.
Since researching and writing this article, Schwab has announced free trading. And TD Ameritrade, E*Trade, and other brokers are following suit. This is a great trend for individual investors. Barriers to investing are continuing to drop.
2. The bad stocks come with the good.
Some of the US dividend ETFs have fund weightings that are counter-contrarian. The funds put more money into companies that have run up in value. Some of funds do weight based on attractive valuation factors, but this can also be dangerous. The set-in-stone fund trading rules lead to catching falling knifes.
When I buy individual stocks, I have more control of what – and when – I buy or sell. I’m a big fan of systematic investing but the markets change. Past systems that worked can become outdated and underperform.
This is where many ETF fans will argue I’m just trying to beat the market. It’s a good argument but the improved control alone can lower fees and taxes even more. Also, there’s plenty of evidence that the market isn’t efficient. Warren Buffett and others have proven startegies that have outperformed. You can mimic their moves thanks to 13f filings. You can find most of their big portfolio changes each quarter.
The US dividend ETFs above are a great way to generate income and gain equity exposure. I believe they’re a great fit for many investors. Although, I’ll stick to individual stocks for more control. They have low-to-no one-time fees that are a better fit for a growing portfolio.
I’ll admit that there’s one challenge that comes with investing directly in companies. It’s more time consuming. Although, I enjoy the process and I like sharing my research J You can find the top stocks on my watch list here: 10 value dividend stocks near their 52-week lows.
Please let me know what you think. Are there any other reasons you buy or avoid dividend ETFs? I’d love to hear your thoughts in the comments below.
15 thoughts on “Top US Dividend ETFs – 2 Reasons Why I Don’t Buy Dividend ETFs”
Since most ETF give ‘distribution’ instead of pure ‘dividend’ will there be a difference in tax between a high-dividend US stock vs a high-dividend US ETF in an RRSP account?
Thank you !
Hard to give a yes or no answer since that depends on the composition of the distribution (dividends + capital gains). If you’re talking about RRSP account you shouldn’t worry about the tax consequences though.
What about buying ETFs that have covered call options? Most people don’t really know how or want to learn how to utilize them. I use JEPI and am wondering if you think the options outweigh your reasons for not using ETFs?
Please see here – https://www.tawcan.com/should-i-invest-in-high-yield-covered-call-etfs/
Thanks for sharing that! I can’t believe what a valuable resource your site is – and that I didn’t truly understand the value of tax credit eligible dividends until just a few years ago. What a waste of time, the most valuable investment tool of all!
I’m trying to create my own monthly dividend paying portfolio.
I am having difficulty finding out when dividend payers pay and defining a list that way
Do you have any suggestions?
Are you looking for US or Canadian payers?
For Canadian you might want to take a look here – https://www.tawcan.com/canadian-dividend-calendar/
Canadian payers … once I get that going I’ll look south of the boarder
Even after the pandemic the sentiment of this post still rings true, many companies slashed or postponed dividends, some even suspending earnings expectations. Most ended up ok, but picking the winners yourself, while extra work, can reduce risk and help you be more agile with these dividend winners.
Great post guys!
I believe it doesn’t take much time to identify 20 to 30 good US dividend growth stocks. Once you’ve got your list, you don’t need to continue to look for others. Just decide which you’d like to buy when you have money to invest and buy them when they are at a reasonable price (keeping in mind the exchange rate). I also believe your income will be much higher buying individual stocks and you will likely do just as well with capital growth.
Good, balanced post. I see your point about the costs of ETF’s on large portfolios, although I think they are still of value to investors with smaller portfolios who need to keep costs low. Whilst buying fees for stocks vary depending on the account they can still be very significant for small investors on top of regular account fees. Also there are the costs of selling individual stocks.
Bad stocks contained within an index is a valid point, although unexpected stocks can surprise sometimes which is a benefit of holding an index, compared to individual stocks. I agree that there are good quality dividend stocks that you can hold outside of an index though.
I’m not sure I would agree that holding 10-20 stocks is giving proper diversification, especially if those stocks comprise your sole portfolio. Also, holding only U.S or Canadian stocks will not provide global diversification to manage risk although I would accept that it would alleviate some currency risk.
10-20 stocks and some broad market index ETFs should provide some good level of diversification. 🙂
I’m not a big fan of ETF. I love the Idea of picking an individual stock. Even if you buy the top 10-20 stocks in a ETF it would still be hard to replicate it. I’ll use SPY as an example MSFt is the biggest stock in it news Corp is the lowest weighted there is about 640 times more MSFT than Newscorp. The only way to really replicate one would be to find a equal weighted one.
I hear people say if you can’t beat the SP 500 you need to invest in etf. As a dividend investor to me that’s secondary.
I’m also not a fan of ETFs for the same reasons you noted Bob. A simple method is to buy the top 10-20 holdings in any of the ETFs and save your fees, diversify as much/little as you see fit. Assuming a long term time frame (which any dividend investor should have), you’ll come out ahead of the ETF investor. Read the Connolly Report and be enlightened to true dividend growth investing.
Buying the top 10-20 holding in any of the ETFs will essentially allow you to create your own ETF and save on the fees. 🙂