With dividends under duress this year, funds emphasizing dividend growth stocks, such as the SPDR S&P Dividend ETF (SDY ), are taking on added importance for income investors. Add to that, investors are being vexed by low-interest rates.
“With interest rates pitifully low, income-seeking investors may be leaning on dividend income more than ever. Investors must consider the different ways they might mitigate this risk,” said Morningstar in a recent note.
SDY, one of the largest U.S. dividend ETFs, holds firms that have a minimum dividend increase streak of 20 years. Moreover, SDY follows a yield-weighting methodology that allocates a larger weight toward those with higher yields, so the portfolio leans toward more mid-sized companies. Historical data confirm that dividends are major contributors to investors’ long-term, total returns.
SDY Matters Today
Dividend-paying stocks can also help insulate investors from a broad market pullback. That’s particularly true of dividend growers, such as SDY components, which by virtue of their quality traits, tend to display less volatility in rough markets.
SDY components have some other traits that are important in today’s trying dividend environment. Plus, SDY acts swiftly to rid itself of dividend offenders.
SDY’s “benchmark applies a rigorous screen for dividend durability. Eligible stocks must have raised dividend payments for at least 20 consecutive years,” according to Morningstar. “Although this is a high bar for inclusion, it is a backward-looking screen and there is no guarantee that firms won’t succumb to dividend cuts. Those that do quickly get the boot. The index reviews constituents’ dividends monthly. Any stock that has suspended, omitted, reduced, or eliminated its regular dividend will be removed from the index at month-end.”
Just two other ETFs have longer dividend increase streak requirements than does SDY. To be sure, some SDY members were dividend offenders in the first quarter, but many dividend ETFs were struck by the same problem and SDY’s increase streak mandate allows culprits to be removed at the next rebalance.
It’s still not clear how the coronavirus environment will play out in its entirety and while SDY doesn’t guarantee investors will avoid dividend offenders, the fund’s approach “should give investors confidence that they will likely weather the storm and serve investors well over the long term,” notes Morningstar.