Dividend Exchange-Traded Funds have become very popular among dividend investors over the last decade. I am not surprised by that, because a good Dividend ETF offers several benefits over hand-picking individual dividend stocks (see below).
I also think that a dividend ETF could be a great foundation for your portfolio if you don’t have the time to hand-pick individual stocks. Simply said, investing in Dividend ETF’s could be a very easy approach to automate your passive income investment strategy. This is why I would like to share and inspire you with my personal top 5 Dividend ETFs.
But before we go there, let’s first run through the basics in case you are new to investing.
What is a dividend ETF?
A dividend ETF is an Exchange Traded Fund which is designed to return dividends on a regular basis to its investors. Such a dividend paying ETF usually tracks a so-called dividend index.
To keep it simple, there are two popular types of dividend ETF’s which I think you should be aware of:
- A dividend ETF focused on annual dividend growth
- A dividend ETF focused on high dividend yield
The first dividend ETF typically consists of popular Blue Chip companies like Johnson & Johnson, Coca-Cola and Unilever. These are all dividend aristocrats with a long history of continuously paying increasing dividends
The second dividend ETF typically consists of popular Blue Chip companies that pay a high dividend, i.e. more than 5% dividend yield. These kind of Dividend ETFs rather consist of companies that have high dividend payouts. Examples are AT&T, NN Group, Omega Health Care Investors.
Should I invest in dividend ETFs?
Answering this question is really about making a choice between investing in individual dividend stocks versus investing in a dividend ETF.
As you can imagine, this is a very personal choice, but I hope that the following overview makes your decision easier:
|Criteria||Dividend ETF||Individual Stocks|
|Time required to manage the holdings||Pro||Con|
|Ability to Sleep Well at Night (SWAN)||Pro||Con|
|Costs (i.e. transaction, expense ratio)||Con||Pro|
|Dividend Growth potential||Con||Pro|
|Opportunity for higher average dividend yield||Con||Pro|
Let me also reflect on the last two criteria.
The dividend growth potential or the opportunity for a higher average yield is something which I consider higher when hand-picking stocks. As an example, when investing in a Dividend Growth Aristocrats ETF, then it’s not a given that you will actually see growing dividends as an outcome of the ETF. And if you do see this, then usually it comes at the price of having a low dividend yield.
Another weakness is also that the selection criteria for such a dividend ETF are typically based on past performance and it usually doesn’t take valuation into consideration.
This is something you are more in control over when hand-picking individual stocks. You could for instance exclude all the stocks with a very high payout ratio and all the stocks with a low starting yield as per your individual preferences.
I hope this explanation makes sense?
How to invest in Dividend ETFs?
There are many ETFs that pay a dividend, but how do you know what dividend ETF to chose?
This depends of course heavily on your investing strategy, but I think it’s safe to say that most of us are looking for a certain dividend yield and a safe payout-ratio as the main selection criteria.
Hence, before you can invest in Dividend ETFs you first want to know where to find them.
This is how to buy a dividend ETF.
1. Find the right Dividend ETF
There are three general options at your disposal to find the right Dividend ETF to invest in:
- Login to your broker and search for ETFs. Look at the ones that meet your dividend screening criteria, i.e. a dividend yield of at least 2.75%. If your broker doesn’t allow you to search like that, then try the next option first.
- Visit a Dividend ETF screener like the one from SeekingAlpha. Screen for all ETFs that fit your criteria. The nice thing is that this particular screener already comes with a preset filter for dividend equities (see screenshot below).
- Visit the major ETF providers directly and look for their dividend theme based ETFs. Examples of such EF providers are Vanguard and iShares from BlackRock
2. Perform a brief due diligence check
This is the step where you have to do your due diligence. There are a few factors that I would consider before buying any particular ETF and some of these relate to a common dividend growth investment strategy:
- Check the 5 year dividend history. It’s wise to check whether the dividend has been actually growing with a CAGR related to your dividend investment strategy (i.e. 6%)
- Check whether the starting dividend yield aligns with your dividend investment strategy (i.e. 2.75%)
- Check what the expense ratio is, because it cannibalizes on your dividend yield. Generally the lower the better, i.e. under 0.5%.
- Check the top 10 holdings. You want to make sure that these consist of high quality companies, but at the same time don’t cover more than 50% of the total dividend ETF. Diversification is key when investing in Dividend ETFs.
3. Buy the Dividend ETF
Look up the Dividend ETF at your broker and just buy it. It works exactly the same as investing in individual stocks. You can buy and sell them at any time when the markets are open and some brokers allow you to do this commission free.
There is a catch though if you are living in Europe. In that case you might often find it hard to buy US domiciled Dividend ETFs directly. It’s then important to look specifically for UCITS Dividend ETFs.
Undertakings for the Collective Investment in Transferable Securities. This refers to a regulatory framework that allows for the sale of cross-Europe mutual funds. UCITS funds are perceived as safe and well-regulated investments and are popular among many investors looking to invest across Europe.
Finding those UCITS dividend ETFs is easier if you search for ETFs directly via your broker. They have already made that selection for you.
What is a good Dividend ETF?
A good dividend ETF is in my opinion an ETF with a total return that beats the average benchmark of the S&P500. Ideally we could even think about the Chowder rule as a yardstick for quality. Hence, why I’m rather looking at the dividend yield and the 5 year compounded annual dividend growth rate (CAGR) instead of a single year of growth.
How to calculate the total return
Total Return = (Dividend Yield – Expense Ratio) + 5 year CAGR
Besides the total return, an ETF should in my opinion also provide good diversification. I.e. a single company within a dividend ETF shouldn’t be larger than 4% of the entire weight in the ETF.
We have now discussed all the basics of investing in Dividend ETFs and I hope this helps. Let’s now look at my favorite list of Dividend ETFs.
List of Top 5 Dividend ETF’s
Below is my personal list of top 5 Dividend ETFs. Every Dividend ETF has by design a slightly different approach and they are sorted by their dividend yield. Some are focused on dividend growth and others might be focused on paying a high dividend yield. In the latter case it means that dividends fluctuate up and down over the years.
|Ticker||ISIN||Name||Dividend Yield||Expense Ratio||5 Yr Div CAGR|
|$LON:SEDY||IE00B652H904||iShares Emerging Markets Dividend UCITS ETF||4,59%||-0.65%||-1,89%*|
|$EPA:HDLV||IE00BWTN6Y99||Invesco S&P 500 High Dividend Low Volatility UCITS ETF||4,24%||-0.30%||11,32%|
|$DGRO||US46434V6213||iShares Core Dividend Growth ETF||2.23%||-0.08%||11,92%|
|$VIG||US9219088443||Vanguard Dividend Appreciation ETF||1.60%||-0.06%||4,59%|
|$LON:DGRW||IE00BZ56RD98||WisdomTree US Quality Dividend Growth UCITS ETF||1.55%||-0.33%||4.79%|
* there was a decrease in dividends in 2020 due to Covid-19. The dividend ETF has upside potential going forward
It’s important to know that the 5 year dividend compounded annual growth rate is a backward looking metric. These results are not guaranteed to be similar in the future.
Read more: the Chowder Rule in practice
As I mentioned before, these are just 5 of my personal favorite ETF’s.
But if you are into Dividend ETF investing, then this is just the start. If you are interested in another list of dividend ETF’s then check out the article linked below.
Lists of Dividend ETF’s
1. 15 Dividend UCITS ETF ‘s for European investors in 2022
2. Dividend Aristocrat ETF’s [2021 Review]
3. 3 Best Dividend ETFs | Select wisely and know the pitfalls of investing in Dividend ETFs
Frequently asked questions
Before we finish, let’s also look into several frequently asked questions which I didn’t address before. Let me know if any particular question is missing and I will add it to this list.
What are ETF Costs?
That’s why I would like you to be aware of three different types of costs related to investing in an ETF and owning an ETF.
The first type of costs is the expense ratio. An expense ratio is deducted from your account and goes towards paying a fund’s total annual expenses. The average expense ratio is 0.44%, but this applies mostly to US ETF’s. I have found the European based ETF’s typically to be a bit more expensive, i.e. 0.60%.
The second type of costs are brokerage commissions for buying and selling your ETF’s. These costs very much depend on your broker, but it isn’t uncommon to pay a commission of 8 Euro on a single ETF purchase.
The third type of costs are brokerage maintenance fees. Some brokers charge an annual 0.3% maintenance fee which is depending on the amount of money you have invested. Saxo Bank is a good example of this.
Do ETF’s pay dividends?
Not all of them do. You will typically find the dividend policy and dividend payout in the ETF prospectus. Some Dividend ETF’s are also designed to not pay a dividend at all, but rather to reinvest the dividend at once. We call that an accumulating ETF instead of a distributing ETF. A good reasoning for this would be the avoidance of dividend taxation on the side of the investor.
Are ETF dividends safe?
This is not an easy answer. It really depends on the composition of the Dividend ETF itself. What kind of stocks are part of the ETF, do they have high payout ratios and are they highly valued? In general investing gives you a higher risk on potential loss than for instance your savings account. The only thing we could argue is that a dividend ETF prevents single-stock risks. It’s highly unlikely that you will lose your total invested income if you invest for instance in one of the top-tier dividend ETFs like Vanguard’s dividend appreciation ETF.
The level of dividends as such can be considered not that safe. Many dividend ETFs had to lower their distributions in 2020 compared to 2019 after many of their holdings had to cut their dividend.
Where to buy Dividend ETF’s in Europe?
There are several places where you can buy ETFs. First of all you can most likely buy them via one of the online brokers (i.e. deGiro, InteractiveBrokers and Trading212). Secondly you can often buy them via an investing account at your bank (i.e. ING). Thirdly you may want to open an account at the ETF provider directly (i.e. iShares or Vanguard). Lastly, you can often buy some via your retirement account provider (i.e. an SIPP account in the UK or IKE in Poland).
It really depends on your preference. Every option provides different advantages and disadvantages (i.e. costs, tax-free, availability)
What is downside of ETFs?
The downside of ETFs is potential capital loss due to share price depreciation in its underlying holdings. Another downside of ETFs is potential mismanagement and high management fees.
Investing always carries risk and in the worst case you might lose all your money. Do not invest at all if you can’t afford a loss.
What is the ETF dividend yield? SEC yield or distribution yield?
The ETF dividend yield is what we call the distribution yield. The distribution yield is based on the trailing twelve months distributed dividends.
The SEC yield is something mandated by the U.S. Securities and Exchange Commission (SEC). It allows for fairer comparisons of funds. It is based on the most recent 30-day period and the SEC yield reflects the dividends and interest earned during the period after the deduction of the fund’s expenses.
That’s it from my side about what a good Dividend ETF is, how to find them and my personal Dividend ETF top 5.
I hope you found this article informational. Let me know if you have any further questions or suggestions.
European Dividend Growth Investor
I’m not a certified financial planner/advisor nor a certified financial analyst nor an economist nor a CPA nor an accountant nor a lawyer. I’m not a finance professional through formal education. I’m a person who believes and takes pride in a sense of freedom, satisfaction, fulfillment and empowerment that I get from being financially competent and being conscious managing my personal money. The contents on this blog are for informational and entertainment purposes only and does not constitute financial, accounting, or legal advice. I can’t promise that the information shared on my blog is appropriate for you or anyone else. By reading this blog, you agree to hold me harmless from any ramifications, financial or otherwise, that occur to you as a result of acting on information provided on this blog.