Since the beginning of the Fed’s QE policies, many investors have found it challenging to secure meaningful yields from asset classes that were once the core of income strategies, leading some to look for new ways to obtain current income. Michael Akins, Lead Portfolio Manager for ALPS ETF Trust and initial creator of the SDOG license, recently took the time to discuss the thought behind the compelling international twist on the popular “Dividend Dog” strategy [see Free Report: How To Pick The Right ETF Every Time].
Michael Akins (MA): The ultimate goal when we set out to design a dividend ETF was to address what we saw as a tradeoff that existed in the high dividend ETF space. Obviously it’s a fairly crowded space with a lot of products out there, but we saw that investors had to make a decision between two different kinds of ETFs. The first being a fairly diversified but modest yielding dividend growth portfolio; these being the ETFs that track indexes with very stringent screens on consistency and growth, which often result in a yield that is only marginally higher than the market as a whole. The second type is a higher yielding but often times a largely undiversified dividend value portfolio, featuring a heavy sector tilt. It is not uncommon for these ETFs to have a very high concentration in a small number of stocks or sectors.
What we did to address this trade off was to expand the original Dogs of the Dow strategy to each sector of the S&P 500. Essentially we wanted a portfolio which retained the high dividend yield and deep value characteristics of the DOG strategy but with the potential for better diversification across both individual stocks and. The result was SDOG, a 50 stock portfolio which takes the five highest yielding securities from the ten sectors of the S&P 500, providing an equal weighted portfolio that still maintains the deep value DOG concept with high dividend yields but with much better sector diversification [see Monthly Dividend ETFdb Portfolio].
ETFdb: Is it fair to say you are putting a new twist on a well-known strategy?
MA: That is exactly what it is. I look at SDOG as taking this very popular and well-known value strategy but expanding it to the S&P 500 and giving investors the potential for better diversification. The equal sector component is also very important – if you were just going to take the DOGs of the S&P 500 you would end up with a very defensive portfolio of telecom, utilities and consumer staples stocks. An equal sector approach ensures that you retain exposure to strong sectors that historically may not have had the same dividend levels but could still be attractive for investors.
ETFdb: You have recently launched an international version of SDOG, what was the rationale behind IDOG?
MA: IDOG is literally SDOG’s international developed market sister, but the key point to IDOG in our opinion is the starting universe. When using a Dog strategy it is important to have an extremely liquid and high quality universe. Historically, companies that have the most capital and the best access to financing, they have the best chance of continuing or building their dividend. By contrast, smaller, less capitalized companies may have a harder time financing which can result in higher dividend volatility. With this in mind, we set out to create a starting universe of very liquid, well-capitalized companies from international developed markets.
To accomplish this we took approximately 70% of the stock market capitalization of countries defined as High Income by the World Bank (currently 22 countries). From this we applied additional screens on stock price and liquidity. The result is a starting universe of approximately 500 well capitalized, very liquid companies across 22 develop market countries. To put this in perspective from a country allocation standpoint the S-Net DMI is very similar to the MSCI EAFA but has considerably smaller qualifying names (~ 500 vs. ~ 900). This screening process results in a starting universe of approximately 500 well capitalized, very liquid, multinational, developed companies. From there you can apply the same rules that we developed for SDOG, taking the five highest yielding securities in each of the ten economic sectors and equally weighting. As with SDOG, we reconstitute once a year and what you end up with is a number of characteristics that are very similar to SDOG with International exposure [see 101 High Yielding ETFs For Every Dividend Investor].
ETFdb: When you are building these products do you see these products as a core piece of a portfolio or more as a satellite product?
MA: In my opinion I think SDOG and IDOG can be strong core or satellite holdings depending on the strategy of the investor. Since they have such strong correlations to the S&P and EAFE many advisors may want to consider switching out their standard holdings for a fund that could bring in potentially more return on the same index, and we think there is some investor comfort in that. For those really contrarian investors these funds could be substituted for the indexes, but for most investors the strong yields will make SDOG and IDOG suitable holdings for a diversified equity income portfolio.
ETFdb: Broadly speaking, do you see a rising rates, or fear of rising rates on the horizon as a potential threat to dividend ETFs as a whole.
MA: I think there is a threat to dividend ETFs as a whole, but will be most noticeable to those ETFs that feature a heavy weighting to defensive sectors. I would expect that SDOG and IDOG will perform just fine as long as we keep moving forward to a normalized interest rate environment. Utilities and telecom will be the hardest hit sectors as Treasury rates go up and investors rotate to less interest rate sensitive areas of the market. But from the perspective of a fund where investors are looking for a good screen for value, I don’t think SDOG or IDOG will be hit as hard as others will, with our limited exposure to both utilities and telecom while still holding growing sectors like technology and energy [see The Best Dividend ETF For Every Investment Objective].
Bottom Line: For those looking to make a new play on the dividend space, both SDOG and IDOG are compelling options. Both funds seek to provide investors with meaningful yields by using the popular “Dividend Dog” strategy, with SDOG focusing on domestic equities and IDOG giving investors an international twist.
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Disclosure: No positions at time of writing.