With the Federal Reserve continuing its course of raising interest rates, some investors may think income stocks and the related exchange-traded funds (ETFs) are vulnerable or destined to produce lagging returns. That was the case earlier this year as some income ETFs disappointed, but that scenario is reversing for the better.
On the back of recent strength, the Vanguard Dividend Appreciation ETF (NYSEARCA:VIG), the largest U.S. dividend ETF by assets, is up 11.3% year-to-date, just ahead of the 10.8% returned by the S&P 500.
On Friday, Sept. 21, 105 U.S.-listed ETFs hit record highs. Fifteen of those funds were dividend or income ETFs, including the aforementioned VIG.
When it comes to income stocks, data suggest there is more good news than bad on the dividend growth front. Domestic dividends and buybacks have been boosted by the tax reform legislation passed late last year and on a global basis, dividends are growing.
“Global dividends jumped 12.9 percent year-on-year in the second quarter to $497.4 billion, hitting a new record, according to a report on the Janus Henderson Global Dividend Index,” reports CNBC.
Investors looking for solid ideas among income stocks should consider the following, as they are among the best ETFs for income.
ProShares Russell 2000 Dividend Growers ETF (SMDV)
Expense Ratio: 0.40%, or $40 annually per $10,000 invested
Small-cap stocks are not often seen as income stocks, but the universe of small-cap dividend payers is expanding. The ProShares Russell 2000 Dividend Growers ETF (BATS:SMDV) is an income ETF that seizes upon that theme.
This income ETF holds the members of the widely followed Russell 2000 Index that have increased dividends for at least 10 consecutive years, a requirement that whittles the small-cap universe down to 61 stocks. SMDV allocates about 38% of its combined weight to utilities and industrial income stocks, giving this income ETF a different sector profile than traditional, diversified small-cap funds.
“Companies that consistently grow their dividends tend to be high quality with long histories of profit and growth, strong fundamentals and stable earnings, and management teams with conviction,” according to ProShares. “These features have generally enabled dividend growers to withstand repeated market turmoil and still deliver strong returns with lower volatility.”
Another advantage of small-cap dividend payers is that these income stocks are less volatile than their non-dividend counterparts. Year-to-date, SMDV’s volatility is significantly below the Russell 2000’s.
FlexShares Quality Dividend Index Fund (QDF)
Expense Ratio: 0.37%
Among income ETFs, the FlexShares Quality Dividend Index Fund (NYSEARCA:QDF) often goes overlooked, but compared to other income ETFs, QDF has an enviable track record since coming to market in late 2012. After all, this income ETF has outperformed many of its larger, older rivals.
One of the hallmarks of the quality factor is management commitment to shareholder rewards in the form of dividends and buybacks, so it is not surprising that some of the best ETFs for income, such as QDF, marry the quality factor with income stocks. The strategy can also reduce volatility as QDF has been less volatile than the S&P 500 over the past three years.
“Predictable income generation is an essential pursuit as investors strive to meet financial obligations and achieve long-term goals,” according to ProShares.
Predictability and dependability are essential with income ETFs. Several of QDF’s top 10 holdings have dividend increase streaks that can be measured in decades and a few others are getting close to that enviable territory.
WisdomTree U.S. MidCap Dividend Fund (DON)
Expense Ratio: 0.38%
As is the case with small caps, mid caps are not always thought of as being income stocks, but the WisdomTree U.S. MidCap Dividend Fund (NYSEARCA:DON) is an income ETF that dispels that notion. Adding to the case for DON is that over the long-term, mid-cap stocks often outperform large caps while sporting less volatility than small-cap equities.
DON, which holds nearly 400 stocks, targets the dividend-weighted WisdomTree U.S. MidCap Dividend Index. That index has a dividend yield of 2.86%, or more than double the 1.25% dividend yield on the S&P MidCap 400 Index.
This income ETF allocates about 37.70% of its weight to consumer discretionary and real estate stocks. Industrial and utilities names combine for 25.81%. DON is one of the income ETFs that pays a monthly dividend.
Vanguard International Dividend Appreciation ETF (VIGI)
Expense Ratio: 0.25%
The Vanguard International Dividend Appreciation ETF (NASDAQ:VIGI) is the international cousin of the aforementioned VIG. International income stocks often yield more than their domestic counterparts, but this income ETF’s trailing 12-month yield is mostly inline with that of the domestic VIG.
VIGI holds 312 stocks, including a mix of developed and emerging markets stocks. Emerging markets income stocks represent over 26% of this income ETF’s roster, indicating this fund could be an idea for conservative investors looking to position for an emerging markets rebound.
European markets, notably the U.K., France and Germany, are leading dividend growth across the pond. That is relevant for this Vanguard income ETF because those three countries combine for 31.30% of VIGI’s geographic exposure.
SPDR S&P Dividend ETF (SDY)
Expense Ratio: 0.35%
The SPDR S&P Dividend ETF (NYSEARCA:SDY) is one of the oldest and largest income ETFs trading in the U.S. Home to $16.52 billion in assets under management, SDY is a favorite among income investors because of its dividend growth traits.
SDY’s underlying index “screens for companies that have consistently increased their dividend for at least 20 consecutive years, and weights the stocks by yield,” according to the issuer. “Due to the index screen for 20 years of consecutively raising dividends, stocks included in the Index have both capital growth and dividend income characteristics, as opposed to stocks that are pure yield.”
The yield-weighted element in SDY can be a drag on performance as interest rates rise as highlighted by the income ETF lagging the S&P 500 on a year-to-date basis, but over the past three months, SDY is topping the broad market.
Even with the implementation of weighting income stocks by yield, SDY has more than adequate exposure to cyclical sectors as industrial, financial services and consumer discretionary stocks combine for 41.58% of this income ETF’s roster.
Todd Shriber does not own any of the aforementioned securities.