How to Reduce Risk with Dividend ETFs

ETFtrends.com

Investors can lower risk in their stock portfolios with dividend ETFs but they should keep in mind the equity-based funds shouldn’t be substituted for bonds.

When playing the income game, exchange traded fund investors have been increasingly reaching for yields.

According to fund tracker EPFR Global, investors funneled $34 billion into dividend stock funds so far this year, the Wall Street Journal reports. With the 1.60% yield in the 10-year Treasury market and the 2.3% yield in the S&P 500, investors have turned to dividend picks as a way to generate more income. [Why There is no Substitute for Dividend ETFs]

However, investors should not confuse dividend stocks with fixed-income assets, especially during volatile market conditions. For instance, in the third quarter of 2011, the WisdomTree LargeCap Dividend ETF (DLN) dropped 9.7% while the Barclays U.S. Aggregate Bond Index rose 3.8%. [Caution: Dividend ETFs are Not Bonds]

Moreover, Owen Murray, director of investments at Horizon Advisors, warns that investors should not be overexposed to the highest-yielding stocks – high payments usually indicate that the company is in trouble or the yield is unsustainable.

“You have to reach for yield, but some investors are taking it too far,” Jason Thomas, chief investment officer at Aspiriant, said in the article.

Instead, Aaron Gurwitz, chief investment officer of Barclays’s wealth and investment-management division, suggests to allocate a portion of an income portfolio to dividends. For instance, a risk-tolerant investor may take on 65% to 70% in dividend stocks, whereas the more conservative investors would keep equities positions below 20%.

Moreover, investors can also strengthen their dividend position through focusing on quality companies that have a history of boosting payments. For example, the SPDR S&P Dividend ETF (SDY) follows companies of the S&P 1500 that have increased dividends for the last 25 consecutive years. SDY has a yield of 3.2%.

For more information on dividend funds, visit our dividend ETFs category.

Max Chen contributed to this article.

The opinions and forecasts expressed herein are solely those of Tom Lydon, 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.