The Difficulties Of Dividend Investing And 2 Possible Solutions

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Includes: DVY, VIG
by: Paulo Santos

When investing for income, and thus choosing dividend paying stocks, an investor is faced with many different perils. As Tim McAleenan says in his article "My Fear As A Dividend Investor", one's investment choice can end up cutting its dividend like AT&T (NYSE:T) did back in 2001. Or the investment can go sour and bankrupt, like it happened to Kodak. Or its products can go obsolete and totally change the economics of the investment.

A way to defend against these eventualities is obviously to diversify. But diversification has problems of its own. It requires a very large amount of work to identify and study each candidate. It also requires a large enough investment such that a small percentage of it can be allocated to each investment, or else trading costs and fees can easily eat up a good part of the capital.

So is there another practical way to invest for income?

In fact, there might well be. Amongst the thousands of ETFs that exist today, some are dedicated precisely to replicate income investing strategies. And two of those might be, for different reasons, very adequate for whoever wants to implement those strategies. These ETFs will provide diversification at a low cost, while following very specific income-producing strategies.

Investing for the largest income

The iShares Dow Jones Select Dividend Index (NYSEARCA:DVY) seeks to replicate the price and yield performance of the Dow Jones U.S. Select Dividend Index. It does so with a reasonable 0.40% annual expense ratio. This index represents the U.S. market's leading stocks by dividend yield, and as such the ETF will have a correspondingly high yield - with the present SEC yield standing at 3.63%. More detail about this fund can be had at its iShares product page.

Generally speaking, this fund should be a good match for income investors that seek to maximize their present income from their income-producing strategy.

Investing for the best dividend growth over time

A slightly different approach is taken by the Vanguard Dividend Appreciation ETF (NYSEARCA:VIG). Here the objective is not to maximize the present yield, but to maximize its growth over time. For this, the ETF seeks to replicate the price and yield performance of the Dividend Achievers Select Index. This index tries to maximize dividend growth by buying U.S.-listed companies that have increased their annual regular dividends for at least the past 10 consecutive years, while meeting certain liquidity criteria. Its SEC yield stands at 2.30%. Also importantly, this ETF has a very low annual expense ratio at just 0.13%. More detail about this fund can be had at its Vanguard product page.

Generally speaking, this fund should be a good match for income investors that seek to maximize the growth of their income over time from their income-producing strategy.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.