VDY Beats The Market - Copy That?

by: Dale Roberts

The Vanguard FTSE Canadian High Dividend Yield Fund now has a 6 year history.

The fund has beat the composite index by 1% annual. Go Dividends!

US investors might add some non-US assets by way of skimming these large cap stocks listed on US exchanges.

My research shows that it often does not take many to track an index.

OK, let's skip the introductions and get right to the good stuff. Here's the chart. Portfolio 1 is the Vanguard High Dividend Yield Index Fund, ticker VDY on the TSX Toronto Stock Exchange.

Portfolio 2 is the TSX composite, ticker XIC from iShares.

The chart is courtesy of portfoliovisualizer.com. As always, past performance does not guarantee future returns.

We can see that while the Canadian market correction of 2015 and into 2016 took down the big dividend payers more than market, the fund likes to battle back. It wants to outperform the market as it did out of the gate, and from the 2016 recovery.

The fund is heavily weighted to the Canadian financials at 66% currently. The outperformance credit might go to the big Canadian banks, insurance companies and other financial institutional wealth managers.

The Canadian market is not very well diversified, and this fund exaggerates the concentration in financials and oil and gas and utilities.

That said, the financial sector (and banking in particular) is perhaps Canada's greatest strength. If that trend continues, this fund will outperform the more 'diversified' composite index.

Here are the top 10 holdings.

These top ten companies are all available on US markets. Royal Bank (RY), Toronto-Dominion Bank (TD), Scotiabank (BNS), Enbridge (ENB), Bank of Montreal (BMO), Canadian Imperial Bank of Commerce (CM), TransCanada (TRP), Manulife (MFC), Sun Life (SLF) Pembina Pipelines (PBA).

Out of the gate the top ten gives us the Big Canadians banks, 2 insurance 'giants' and two of the biggest pipeline/energy companies in Canada, with Enbridge being the largest pipeline operator in North America. Enbridge operates the most miles of oil and gas pipeline globally. We also find Pembina Pipelines, more of a local 'player'.

Those 2 pipelines are in my concentrated Canadian Dividend Portfolio that I like to call The Canadian Dividend Wide Moat 7.

All 7 of my Wide Moat stocks are in VDY. I simply choose to skim the 7 that I feel have the widest moat, and hence the probability of sustainable and growing dividends. For my wife's accounts I do not expose her to that concentration risk, we use VDY.

Of course many will write that 7 is not enough. That is a very concentrated portfolio to say the least (don't try this at home) and one might build a portfolio with 15, 20 or 25 stocks to capture a market or index.

That said, let's move on to the next group of top holdings of VDY.

We see telcos such as my Bell (BCE) and Telus (TU), plus Rogers (RCI) and Shaw (SJR) - once again all listed on US exchanges. We then see more utilities, energy and diversified financials - FIs.

Here are the key stats on the fund holdings.

One would be able to grab a very attractive initial yield; one is also buying a very generous earnings yield and solid earnings growth rate. Of course with higher yield dividend investing it's more about gaining quick access to generous current profits and cash flows by way of dividends. An investor in the accumulation stage will use those dividends to purchase more shares and increase their ownership of those profit centres. It's a virtuous cycle virtuoso.

Dividends + Growing Dividends + More Shares/More Dividends = triple compounding

A hen for her eggs; a company for the dividend

A retiree might be satisfied to grab those dividends for spending, and take the stock market gyrations out of the picture. Of course there is always dividend health risks for accumulators and decumulators.

All told, we might conclude that the Canadian market is an attractive place for Big Dividend Investing. One might also get some ideas from the market beating MSCI High Dividend Yield Indices.

Here's the performance of the top 10 holdings of VDY for 2018. The investments are in US dollars.

It was not a good year for big Canadian Dividend payers; and it was even worse year for the Canadian dollar. A US investor would take a currency hit, to the tune of about 9% in 2018.

Here's the performance of the current top ten VDY from 2016 to end of 2018.

And how does that recent dividend growth history look for a US investor given the weak Canadian dollar? Here's the income history with dividend reinvestment. The dividend income for the period based on an initial $10,000. The dividends begin at 5.2% and moves to 6%. For a retiree harvesting dividends they would have experienced modest dividend growth.

Here's the 5 year dividend growth history with dividend reinvestment. The yield begins at 4.16% and increases to 5.1% for the period. I do not know the extent of the survivorship bias, but the top 10 are all long time staples of the Canadian core market and dividend indices.

If one seeks that dividend health they might concentrate on the financials, telcos, pipelines and utilities.

I've recently explored filling out my Dividend Growth Wide Moat 7, and have found candidates outside of the high yield area. I was looking for more of that traditional wide moat or a simple but scalable business model.

In this article we took a look at retail superpower Alimentation Couche-Tard.

By wide moat railway we then took it up to 10 companies by way of (CNI) and (CP). Here's Now arriving the Canadian Wide Moat 10.

And then (BAM) we were up to 11 with market-beating/destroying conglomerate Brookfield Asset Management.

Juicy Dividends and Total Return Candidates

The Canadian market provides the opportunity for some generous dividends by way of those VDY candidates. An investors could certainly create a portfolio above an initial yield of 5%. There are also total return candidates that I've recently explored to in the attempt to shore up the Wide Moat portfolio.

Please keep in mind that US investors face that currency exposure. Also look into the withholding taxes that can be avoided by way of certain registered accounts. Your accountant may have additional methods to retrieve withholding taxes paid.

Canadian investors might continue to enjoy that VDY market beat and generous and growing dividend stream.

Author's note: Thanks for reading. Please always know and invest within your risk tolerance level. Always know all tax implications and consequences.

Disclosure: I am/we are long BNS, TD, RY, AAPL, NKE, BCE, TU, ENB, TRP, CVS, WBA, MSFT, MMM, CL, JNJ, QCOM, MDT, BRK.B, ABT, PEP, TXN, BLK. 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.