Are Dividend and Low-Volatility ETFs Redundant?

ETF Trends

Exchange traded funds pegged to dividend and low-volatility strategies have been huge sellers in 2012 with investors looking for stock ETFs that feature income and reduced risk.

In fact, Invesco PowerShares recently launched an ETF that attempts to combine the two approaches in one fund, PowerShares S&P 500 High Dividend Portfolio (SPHD) . [Low-Volatility, High-Dividend ETF Has Great Sales Hook]

However, investment researcher Morningstar warns investors that the two categories can overlap significantly in their portfolios and stock holdings.

Correlations between the different sets of ETFs are high because high dividend companies also tend to exhibit lower volatility in their share prices, it points out.

Some index providers and ETF managers have been “quite candid in saying there is a high level of correlation between the two strategies,” says Shannon Zimmerman, associate director of fund analysis for Morningstar.

However, he turns wary when marketing departments often pitch the strategies differently when “really there is a high degree of correlation between those approaches.” Low-volatility and dividend ETFs typically land in the large-cap value category, Zimmerman noted.

“If a company pays a dividend, that’s typically, though not always, a sign of financial health. So … the financially healthier companies tend to be the lower-volatility companies, as well. So there is a tight correlation there,” he said in an interview.

Therefore, investors need to be careful when buying popular dividend or low-volatility ETFs because they may already have similar exposure.

“On the other hand, as skeptical as I tend to be about some approaches to marketing mutual fund products … it’s hard to be too cranky when the trend is toward lower-volatility, higher-quality funds,” Zimmerman added.

Vanguard, the top-selling ETF firm this year, says it is considering launching its own low-volatility products. [Vanguard Mulls Low-Volatility ETFs as Category Thrives]

Low-volatility ETFs have attracted nearly $4 billion in 2012. Funds in the category include PowerShares S&P 500 Low Volatility (SPLV), iShares MSCI All Country World Minimum Volatility (ACWV), iShares MSCI USA Minimum Volatility (USMV), iShares MSCI Emerging Markets Minimum Volatility (EEMV), PowerShares S&P International Developed Low Volatility (IDLV) and PowerShares S&P Emerging Markets Low Volatility (EELV).

Dividend ETFs, which as a group have hauled in more than $10 billion this year, include WisdomTree Emerging Markets Equity Income (DEM), Vanguard Dividend Appreciation (VIG), iShares Dow Jones Select Dividend Index Fund (DVY), iShares High Dividend Equity Fund (HDV), SPDR S&P Dividend ETF (SDY), Vanguard High Dividend Yield Index Fund (VYM), WisdomTree Dividend Top 100 Fund (DTN), PowerShares International Dividend Achievers (PID) and First Trust Morningstar Dividend Leaders (FDL). [Dividend ETFs Under the Microscope]

Full disclosure: Tom Lydon’s clients own DVY.

The opinions and forecasts expressed herein are solely those of John Spence, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.

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