Yesterday a reader left a comment asking about the dividends from the new PowerShares domestic small cap sector funds. He said he needs more in the way of dividends because he is retired. I gave a quick answer that I want to expand upon today.
So it seems from the question that the reader uses ETFs and either does or is willing to build a portfolio at the sector level. This brings up one of the drawbacks of ETFs that I first brought up before WisdomTree existed which is that it is very difficult to build an ETF portfolio that emphasizes dividend yield. Even with WisdomTree it can be difficult to get a 3% yield especially given that the firm closed most of its sector funds.
You can go to the sites for the various providers and see what the yield has been and Yahoo Finance had gotten better at correctly reflecting the yield based on the trailing 12 months. Do keep in mind that yield going forward will not be the same as the trailing yield. The trailing yield is best thought of as an indication.
There are certain sectors that typically pay higher dividends than the 2% we've come to expect from the S&P 500. The financial sector is one such sector although not so much in the last couple of years. Per the SPDR website the Financial Sector SPDR (XLF) yields 1.17% and the International Financial SPDR (IPF) yields 1.30%.
Some specialty funds might offer a little better yield. The iShares Singapore Fund (EWS) is about 50% financials and yields 2.66%. The WisdomTree Pacific Ex-Japan (DNH) has a similar weighting to financials, is very heavy in Australia and yields 3.45% which is a little better still--some clients own DNH. Even if you put 16% of your portfolio into DNH (about the weight of the financial sector in the S&P 500) there are several sectors that will not provide a lot of yield, at least not at the fund level; sectors like discretionary and tech which are pretty big and some of the high yielders have 3% weights in the index like telecom and utilities making getting a 3% yield for the entire portfolio very difficult. Putting 10% into a sector that only comprises 3% of the index is a pretty big bet and would fall into the realm of yield chasing IMO.
At this point it makes sense to entertain branching out into individual stocks that might yield a little more. With a hat tip to Top Foreign Stocks CorpBanca (BCA) from Chile yields 6.70% and Banco De Chile (BCH) yields 6.30% (to be clear I own a different Chilean bank and am not recommending either of these they are just example) . Something like a quarter of a financial sector allocation into a well researched high yielding stock is obviously an easy way to lift the yield of the entire portfolio while still allowing for exposure to some more growthy holdings.
This can be repeated in most sectors--that is combining something with a very high yield like BCA, something with a slightly above market yield like DNH and depending on the sector something like a specialty ETF where a small yield doesn't have to be a reason to avoid or something with no yield in a sector that typically doesn't pay dividends.
If you think about there being ten sectors, having just one holding for telecom, utilities and materials (high yielding or not) because they only have 3% weights in the index that leaves seven sectors. If each of those seven have three holdings that makes 24 for the entire portfolio with at most seven individual stocks to keep tabs on.
For some folks who have not bought individual stocks before maybe this puts a different perspective on using them in conjunction with funds to build a portfolio. For some other folks picking one breakfast cereal over another amounts to speculation and this would never fly.
Wikinvest Wire
18 comments:
I don't think one can get a good enough yield, for a dividend income strategy, just on ETFs. The yield just isn't there as you mentioned and individual stocks would be needed.
Thanks for those two Chile bank mentions. They just might be exactly what I have been needing.
I really don't understand why people bother with 2-3% dividends, when muni bond CEFs are yielding 5-6% or even 7% tax-free, foreign bond funds 7-9%, MLPs 7-8%, and mortgage REITs (like NLY) 15%. These are all high-credit-quality funds with more reliable payouts, and less volatile assets, than most dividends.
you do understand the risk of collecting a leveraged 8% in a 1% world right? you do know what happened to a lot of those CEFs and mortgage REITs during the meltdown right?
if you are comfortable there ok but I am not a fan of those.
Hummingbear: I completely disagree that what you have listed are more reliable and less volatile then most dividend paying equities. If they were then they wouldnt be carrying those yields because investors would be placing their money there instead of the dividend paying companies and their price would be driven up.
CEFs: I'd much rather have a 2%-3% dividend that raises the payment by 10%-15% each year then a 6% CEF charging a 2% management fee that never raises its div. Note that this is just on the topic of yield as there are obviously many other reasons to own bonds.
MLPs: Their payments are tied directly to whatever the going rate for their natural resource is. Oil pays great but less volatile? No way. Additionally look at natural gas prices over the past two years. Then also there is seasonality issues with both throughout the year that will really fluctuate the yield.
NLY and other mortgage REITs: Look at what happened to NLY in 2006. Price dropped in half and yield dropped by about 66%. High paying yes but definately not less volatile. The retired individual from Roger's example would be in a world of hurt if that happened to them.
I dont know about NLY but if they are like AGNC or HTS then they own agency backed ARMs. Those are definately not high credit quality assets.
Hi Roger: Haven't heard your take on commodity exposure in quite a while? ARe you a fan of having some exposure in the current envrionment? Do you count gold as part of this exposure assuming you own some? Do u do this with individual stocks as well or etf's?
Thanks, Len D
Good morning, Roger. I, too, am retired and slant my holdings toward income-payers. Today's post is really thought-provoking.
I'm not sure that I agree with using cap-weighted sectorology as the starting point for an income oriented investor. What good does it do to dump a bunch of money into materials and tech, say, when they pay so little?
I had high hopes for Wisdom Tree and am quite disappointed in how things have evolved there. Still, a portfolio that weights sectors by yield makes intuitive sense when one's goal is income generation. I don't think that significantly overweighting utes, telecom, and healthcare, for instance, is chasing yield any more than overweighting tech and materials is chasing growth.
With a few exceptions, I've quit using etfs to generate yield. I've found them to be far less reliable than individual stocks, but still a good starting point for generating ideas.
Thanks for ruining my golf game today. I won't concentrate if I'm thinking about this instead :)
the reason to own, for example, tech and materials is to have a diversified portfolio. Sector performance dispersion can be pretty big and if tech, materials or something else goes up a lot while dividend paying sectors do not you get some growth beyond dividend payments. If tech at 18% of the SPX goes up 30% while the market goes up 10% you are adding basis points to the bottom line that someone so focused on just dividends would not get.
that either matters to you as a dividend focused person or it doesn't but that is the reason.
Roger,
A number of retirees I know right here in Prescott, the financial capital of AZ, use DVY and SDY which have dividend yields of 3.57% and 3.39% respectively. I note that both of these ETFs are overweight Utilities right now with about 27% and 23%. I'm not sure how well the utilities will hold up if we enter an inflationary environment but for now you are getting a basket of large cap, high dividend paying stocks giving you at least double what my retiree friends would get in CDs with the possibility of cap appreciation (or depreciation).
No guts, no glory I guess.
clearly Prescott is a financial hub,clearly.
lol
historically utility stock prices are vulnerable to rising interest rates. when a bond yield becomes more attractive it is thought of as competing for investor dollars.
Roger, a question if I could; Retiredinprescott has me thinking... I'd like to find a table that calculates S&P sector weights by yield (not sector yields) instead of market cap. No luck so far. Can you point me in the right direction please.
Thank you for your help!
the closest thing i can think of, and it is not that close, is to go to the SPDR site and collect the yields for the sector and do it yourself.
Thank you. The thought, obviously, was to construct a portolio whose sectors were weighted not by market cap, but by percent dividend yield. I doubt that utilities would get to the weights that retiredinprescott notes, but they'd be higher than 2 or 3 percent. Further, tech and materials would still be included for growth, just farther down the pecking order.
Some individual stock ideas by sector:
Healthcare:
VIVO 3.9%
ABT 3.3
BAX 1.9
Energy (no MLPs)
STO 4.1%
REP 4.0
CVX 3.3
MRO 2.9
PTR 2.7
Technology
MCHP 4.5%
INTC 2.6
MSFT 1.7
Consumer
MO 6.6%
LO 5.1
PM 4.5
KO 3.2
MCD 3.1
GIS 2.8
PG 2.8
PEP 2.7
DEO 2.5
Other
DD 4.2
PAYX 4.0
SYY 3.3
NUE 3.2
LMT 3.0
EMR 2.6
WMT 2.2
JED
FYI, I own all of these stocks in one of my accounts.
JED
Roger, yes, I do understand. This kind of investing is for someone who has small positions that can be moved quickly, and who watches the market every day for any sign of trouble. Yes, they all fail under certain conditions, but so did most "blue chip" dividend payers in 2008, so what else is new?
Rhianni, I reject your "efficient market" thesis. If that were true there would be no point in choosing any asset over any other since they are all valued "correctly" by the market.
I calculate it the opposite way from you: I need x% return to generate income; therefore, I must learn to tolerate and manage the associated risks. People who are too busy to pay close attention to their investments, or who need security more than they need yield, leave opportunities for superior returns by those willing to reach for them.
Where did I say anything about "efficient market" thesis? Especially to the 100% efficient level you seem to be implying.
The markets have placed NLY's dividend yield at 15% for a reason. I dont think that an investor would purposefully choose a 3% yield if they truly thought a 15% yield was the exact same level of risk. 10.5 million shares of NLY trade a day its not like its a secret that only a lucky few know about. While I do not believe in a 100% efficient market I also do not believe that markets of that volume can misjudge equal risk by a x5 factor.
What I do agree with is in your first paragraph in your second post. The things you listed are for people wth small positions, lots of time for research and keeping an eye on it daily.
Perhaps not every investor fits that demographic?
By those markets I mean JNJ 3% yield vs NLY 15% yield. Both have 10.5 million share volume.
Roger, thanks for the extended answer. I'm doing basically what you suggest; using ETFs and traditional mutual funds to form about half of our portfolio then trying to "cherry pick" stocks to add income or growth. It's nice to hear that other folks are doing the same.
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