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High-Yield Dividend ETFs Come with a Price

etftrends@etftrends.com (ETF Trends)

High-yield dividend exchange traded funds offer attractive yields for the income-strapped investor, but the higher payouts come with risks, such as potentially unsustainable dividends from a beleaguered energy sector.

“A lot of companies have adopted dividend policies that are unsustainable and have been rewarded by the financial markets that don’t sufficiently question the sustainability,” Harald Otterhaug, the head of Oslo Asset Management, told CNBC.

Otterhang attributed the unsustainable dividend policies to easy access to credit markets and equity markets, which caused many to realize that the dividends were a result of a return of capital rather than a return on capital, and there was not much capital left to dish back.

“We believe that longer term, in order for production to be economical, oil prices need to go significantly higher, but it is a big question mark when and how that happens,” Otterhaug added.

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The potentially unsustainable dividend payouts in the energy sector could pressure more so-called high dividend ETFs that weigh components based on payouts. For instance, iShares Core High Dividend ETF (HDV) has an attractive 3.64% 12-month yield, but the fund includes a 21.1% tilt toward the energy sector.

The Vanguard High Dividend Yield ETF (VYM) shows a 3.14% 12-month yield but 10.2% in energy names.

The WisdomTree High Dividend Fund (DHS) has a 3.24% 12 -month yield and holds 15.7% in energy.

The PowerShares High Yield Equity Dividend Achievers Portfolio (PEY) comes with a 3.37% 12-month yield and includes a 20.9% tilt toward the energy sector.

Alternatively, investors may look to dividend growth ETFs that focus on quality companies with a history of growing dividends. For instance, the Vanguard Dividend Appreciation ETF (VIG) tracks U.S. stocks that have increased dividends on a regular basis for at least 10 consecutive years and has a 2.18% 12-month yield. The SPDR S&P Dividend ETF (SDY) holds firms that have a minimum dividend increase streak of 20 years for inclusion and shows a 2.44% 12-month yield. The ProShares S&P 500 Aristocrats ETF (NOBL) only includes companies that have increased their dividends for at least 25 consecutive years and offers a 1.92% 12-month yield. Due to their indexing methodology, the dividend growth ETFs’ energy sector weights are less than 5% each.