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During the halcyon days of the growth stock-led bull market, dividend stocks and the related exchange traded funds, broadly speaking, lagged the broader market.
Specific to dividend ETFs, many of the oldest and largest products in the category trailed the S&P 500 in recent years for a simple reason: those funds follow indexes where the methodologies limited exposure to the technology sector. Over the past decade or so, tech has become an increasingly credible payout destination but because some dividend ETFs require holdings to have minimum dividend increase streaks, often at least 10 years, those funds skimp on tech until stocks from that sector qualify for entry.
These days, some of those prosaic ETFs are doing right by investors. The SPDR® S&P® Dividend ETF (SDY) is part of that conversation. The $19.21 billion SDY follows the S&P High Yield Dividend Aristocrats Index, which only includes stocks that payout increase streaks of at least 20 years. Exclusive company to be sure and that mandate goes a long way toward explaining why SDY holds just 149 stocks and why the ETF allocates just 5.48% of its roster to tech.
There are times when exclusionary tactics work in favor of clients and investors. Year-to-date, SDY has significantly outperformed a slew of rival ETFs with heftier tech weights as well as the S&P 500 and has done so with noticeably less annualized volatility.
SDY: A Grinder Among Dividend ETFs
“Glamor” is a word rarely associated with equity income investing, but “steady” is and the latter is a bell answered by SDY.
“The average yearly increase for the more than 140 firms in the fund is 34 years and nine constituents have over 60 consecutive years of dividend increases,” according to State Street Global Advisors (SSGA). “These are companies that started raising their dividends when John F. Kennedy was president and before the Beatles arrived in the US.”
SDY’s sector allocations – results of the 20-year increase requirement – reflect the ETF’s workman-like approach. Industrial, consumer staples and utilities stocks combine for nearly 53% of the fund’s weight. Owing to cuts and suspensions during the global financial crisis (GFC), the financial services sector represents just 10.39% of the SDY portfolio – a figure that could increase in the years ahead as many GFC offenders from that sector have since restored and steadily increased their distributions.
So not only is SDY a valid consideration to tech-heavy portfolios for diversification purposes, the index’s dividend yield of 2.9% is more than double that of the S&P 500. However, that’s not so high as to imply there’s limited to room for payout growth or that SDY holdings could be dividend offenders. In fact, many of the ETF’s components are generating cash flow commensurate with dividend growth and sustainability.
An Inflation Fighter, Too
Historically, equity income has been a sound way of fighting inflation, particularly when those payouts are steadily rising. However, the S&P 500’s dividend yield is just 1.34%, well below recent readings of the Consumer Price Index (CPI).
In other words, the S&P 500’s yield would need to double attributable to payout growth or deflation would need to set in for the index to be an adequate inflation fighter. Such demands aren’t necessary of SDY.
“But SDY’s index, given its focus on reliable dividend payers, has a trailing 12-month dividend yield of 2.9%,” concludes SSGA. “That rate is above the market’s historical payout and measures of inflation — indicating the potential for both enhanced nominal equity income and enhanced real equity income. Historical trends indicate the same result. Since inception, SDY has consistently exhibited higher trailing 12-month dividend yields than those of a comparable broad market exposure (S&P 1500 Index), due to the selection approach and yield-weighted methodology of SDY’s index.”
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