A Survey Of Dividend Stock ETFs (Part 2)

|
 |  Includes: DLN, DTD, DVY, FDL, HDV, QQQ, SDY, SPY, VIG, VYM
by: Bennington Investment Ideas

Part 1 of this series introduced readers to a range of popular dividend stock ETFs. This article will take a closer look at those ETFs and evaluate key metrics based on their individual stock holdings. The ETFs included in this article are the same as those in Part 1, with the addition of the SPDR S&P 500 Trust ETF (NYSEARCA:SPY) and PowerShares NASDAQ 100 ETF (NASDAQ:QQQ). The following table lists the ETFs reviewed and includes the date of their portfolio holdings:

Dividend Stock ETFs
Ticker Name Family Holding Date
DLN WisdomTree Large Cap Dividend Fund WisdomTree 2/21/14
DTD WisdomTree Total Dividend Fund WisdomTree 2/21/14
DVY iShares Dow Jones Select Dividend Index Fund iShares 2/20/14
FDL First Trust Morningstar Dividend Leaders Index Fund First Trust 2/21/14
HDV iShares High Dividend ETF iShares 2/21/14
SCHD Schwab US Dividend Equity ETF Schwab 2/21/14
SDY SPDR S&P Dividend Aristocrats ETF SPDR 2/21/14
SPHD PowerShares S&P 500 High Dividend Portfolio PowerShares 2/21/14
VIG Vanguard Dividend Appreciation ETF Vanguard 1/31/14
VYM Vanguard High Dividend Yield ETF Vanguard 2/21/14
SPY SPDR S&P 500 Trust ETF SPDR 2/21/14
QQQ PowerShares QQQ PowerShares 2/21/14
Click to enlarge

Source: Company Websites

I've built models to pull data for the holdings of each ETF and then weight their values. This article will look for which ETF offers the best growth prospects relative to valuation. However, I will make the general assumption that each ETF represents a broadly diversified stock portfolio with a beta of approximately one. While QQQ is probably a clear exception to this, it is being included for comparison purposes, since its trailing twelve month ("TTM") yield is a relatively paltry 1%. This is noticeably below the SPY TTM yield of 1.8%, which has declined recently due to the rising price of SPY.

Payout Ratio is inversely correlated to P/E ratio

The P/E ratio that I've used for each ETF is the weighted average P/E ratio for each holding based on P/Es from zacks.com. Payout ratios are similar calculated.

P/E and Payout Ratio
Ticker Weighted P/E Payout Ratio
FDL 14.0 56.2%
VYM 14.3 42.6%
DLN 14.4 41.4%
DTD 14.7 40.4%
HDV 14.9 55.6%
DVY 15.0 54.2%
VIG 15.4 34.0%
SCHD 15.6 45.0%
SPY 15.6 31.2%
SDY 16.8 47.7%
QQQ 19.5 24.9%
Click to enlarge

Source: Zacks.com, author calculations

This table shows a clear negative correlation with two convenient book-ends. FDL (NYSEARCA:FDL) has the lowest P/E ratio and also the highest payout ratio. This suggests that FDL focuses on very mature companies that no longer need to make significant capital investments or acquisitions and can afford to pay a substantial portion of their earnings. FDL carries a limited number of holdings that are heavily concentrated. The following table shows its top ten holdings:

FDL Holdings
Ticker Stock Weighting
T AT&T Inc. 9.4%
CVX Chevron Corporation 8.5%
VZ Verizon Communications Inc. 8.4%
MRK Merck & Company, Inc. 8.2%
INTC Intel Corporation 6.4%
COP ConocoPhillips 4.5%
DUK Duke Energy Corporation 3.3%
LLY Eli Lilly and Company 3.2%
SO Southern Company (The) 2.7%
DD E.I. du Pont de Nemours and Company 2.6%
Click to enlarge

Source: First Trust

In contrast, QQQ has the lowest payout ratio and the highest P/E to reflect its high growth companies, including Google Inc. (NASDAQ:GOOG) and Amazon.com (NASDAQ:AMZN). These companies are not yet paying dividends, and while Apple (NASDAQ:AAPL) pays an above market average dividend around 2.3%, that is still substantially lower than either Verizon (NYSE:VZ) or AT&T (NYSE:T).

Seeking growth at the lowest cost

The next table looks at the ETFs and compares their P/Es to their earnings growth prospects. One should note that while earnings growth should generally correlate to dividend growth, there is still a consideration around the payout ratio which could act to increase or decrease the dividend growth rate.

Long Term Consensus Earnings Growth
Ticker Weighted P/E LTC Earnings Growth
FDL 14.0 6.8%
VYM 14.3 8.3%
DLN 14.4 8.8%
DTD 14.7 8.9%
HDV 14.9 6.6%
DVY 15.0 7.3%
VIG 15.4 9.9%
SCHD 15.6 8.8%
SPY 15.6 10.3%
SDY 16.8 9.0%
QQQ 19.5 13.2%
Click to enlarge

Source: Zacks.com, author calculations

One can see that there is a clear positive correlation as one would expect. QQQ has the highest P/E and the highest projected average growth. FDL sits at the other end offering more limited growth at a cheaper price. However, HDV (NYSEARCA:HDV), DVY (NYSEARCA:DVY), and SDY (NYSEARCA:SDY) also appear to offer poorer growth for the price. There is an interesting comparison between SPY and SDY. SPY trades at a discount despite superior growth. SDY does offer a higher yield of 4.0% based on a very high December dividend payment. Excluding this payment would give a ~2.3% yield using the Q4 2012 payment. There are two possible explanations for this: 1. Investors are willing to pay a premium to get dividends to invest on their terms. 2. SDY carries lower risk and hence investors are willing to pay a premium for that. Both points are worth additional consideration.

Using the past as a guide

While past performance is no indication of future results, it is sometimes informative to see how things played out. Would these past results show any support for the current hypotheses? The following table shows the past EPS growth and past dividend growth in comparison to the LTC earnings growth. The table has been reordered based on LTC earnings growth.

Growth Rates
Ticker LTC Earnings Growth Dividend Growth Historical EPS Growth
HDV 6.6% 7.7% 7.8%
FDL 6.8% 6.7% 7.7%
DVY 7.3% 10.4% 10.3%
VYM 8.3% 14.8% 13.7%
DLN 8.8% 13.6% 15.0%
SCHD 8.8% 10.9% 11.0%
DTD 8.9% 12.5% 14.3%
SDY 9.0% 6.2% 9.4%
VIG 9.9% 10.2% 10.6%
SPY 10.3% 11.0% 10.8%
QQQ 13.2% 18.1% 25.7%
Click to enlarge

Source: Zacks.com, author calculations

This table offers some additional insights. Weighted average consensus growth tends to lag the historical growth rates. SDY, SPY, HDV, FDL and VIG (NYSEARCA:VIG) seem pretty aligned. Note that LTC earnings is probably more easily aligned with historical EPS. The harder question is around interpreting this data. Notwithstanding valuation considerations, I might lean to stronger historical results hence, VYM (NYSEARCA:VYM), DLN (NYSEARCA:DLN), and DTD (NYSEARCA:DTD).

Conclusion

In looking at these ETFs, the goal is to find the most attractive value. Without considering the difference between earnings and dividends (i.e., capital the company decides the investment approach vs. capital that you decide), I would emphasize the second analysis and thus lean towards the Vanguard ETFs (VIG, VYM) and the WisdomTree ETFs (DLN, DTD).

Part 3 will take a look at portfolio considerations and how to assess the levels of risk of these ETFs. I'll also compute the beta of each ETF to compare to my hypothesis that most are around 1, except QQQ.

Disclosure: I am long VYM, SDY, SPY. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Disclaimer: This article is for informational and educational purposes only and shall not be construed to constitute investment advice. Nothing contained herein shall constitute a solicitation, recommendation or endorsement to buy or sell any security.