Dividend exchange-traded funds have endured plenty of trials and tribulations this year. High-yield dividend ETFs, particularly those with a direct or incidental emphasis on the quality factor, have proven vulnerable to speculation that the Federal Reserve is set to finally raise interest rates. This is due to the trend that those funds usually feature large allocations to rate-sensitive sectors such as consumer staples, real estate and utilities.
Income investors can ameliorate this situation by focusing on dividend growth ETFs, such as the $245.1 million iShares Core Dividend Growth ETF (iShares Trust (NYSE: DGRO)). Focusing on dividend growth rather than alluring dividend yields in the current market environment can also keep investors away from ETFs heavy on richly valued defensive sectors.
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“The investor hunger for yield has the market placing a premium on the highest-yielding stocks. Dividend growth stocks tend to be higher quality and are inexpensive compared to those options. They are also cheap relative to both the broader market and their historical averages,” said BlackRock in a .
The Index And The Fund
DGRO follows the Morningstar US Dividend Growth Index, which requires constituent firms have a minimum of of uninterrupted dividend growth. The index also purposefully avoids stocks with high and potentially unsustainable dividend yields by excluding firms with yields that rank in the top 10 percent of the eligible inclusion universe and only companies with a payout ratio of less than 75 percent can be included, according to Morningstar.
As a result, DGRO's trailing 12-month yield of 2.25 percent lags that of the iShares Select Dividend ETF (NYSE: DVY) by more than 100 basis points. However, DGRO has outperformed DVY, one of the largest U.S. dividend ETFs, by 200 basis points this year.
The Advantage Of Dividend Growth
Again, investors can grab the advantages of dividend growth at attractive discounts compared to high-yield dividend fare.
“Interestingly enough, while the bond proxies are trading at valuations that are more than one standard deviation higher than their historic averages, high dividend growers are just the opposite: They are trading one standard deviation lower, or cheaper, than they usually do. Essentially, you have a market where people have forgotten about these types of stocks, making them very attractively priced. And you’re not only getting good prices, you’re buying some really great companies,” added BlackRock.
DGRO does adhere to the principles of dividend growth. For example, eight of the ETF's top 10 holdings are dividend aristocrats, meaning those firms have dividend increase streaks of at least 25 years. Likewise, DGRO's 14.1 percent allocation to the technology, which is above average among dividend ETFs, levers the fund to sources of future dividend growth.
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