Comparing Two Vanguard ETFs for Dividend Growth and Better Returns Instead of Just Focusing on Yields

One of a Wall Street’s firm’s chief economist thinks that the Fed will raise rates by a full percentage point, or 100 basis points, from the current range of 0%-0.25%, This is in response to high inflation, which should, in turn, induce further volatility to the stock market. Thus, stocks can underperform for a long time and it is here that the dividend rationale starts to make sense, not only for income-oriented investors but also for those looking to diversify away from growth.

The contribution of dividends to total return, which includes capital gains (share price appreciation) and distributions, is also higher, in contrast to capital gains alone.

Thus, total returns over a period = share price appreciation + dividends paid.

For the purpose of this thesis, I use two Vanguard ETFs. First, there is the Vanguard High Dividend Yield ETF (VYM) and second, the Vanguard Dividend Appreciation ETF (VIG).

Starting with the VYM dividend ETF

For illustration purposes, I provide the difference between the share price appreciation (price return as shown in the orange chart below) and total return of (VYM) which is trusted by many investors because of its low expense ratio of 0.06% and dividend yields of 2.7%. The ETF pays quarterly distributions and holds stocks from the Financials sector at 22.20% of overall holdings followed by Consumer Staples (12.60%) and Healthcare (12.50%).

Moreover, with 410 holdings and net assets of the ten largest holdings only constituting 24% of the total, the fund exhibits low concentration risks and as shown by the blue chart below, VYM’s with total returns of $184, exceeds its price return by nearly 70% and signifies that VYM has constantly paid dividends and not deceived investors for the last five years despite inflation whipsawing during that time period.

Source: Ycharts.com

Going one step further, it is equally important that investors just choose ETFs based on those paying the highest dividends, but rather make sure they are investing in those funds which also look for the quality metric when selecting holdings. It takes a lot of research to spot stocks paying high-quality dividends, whereby distributions made to shareholders increases with time.

The search can be very time-consuming, hence the interests of looking for an ETF like the VIG where the fund managers are experienced and spend time screening the market. Now, the ETF pays a dividend yield of just 1.59%, or 70% less than VYM’s 2.70% ((2.70-1.59)/1.59)*100), leaving the possibility of the ETF being easily overlooked.

Income potential of VIG

To verify whether lower yields translated into lower dividend numbers, I calculated the quarterly distributions made by these two dividend ETFs over a period of about seven years, from March 2014 to December 2021. Then, I plotted the figures in the chart below. Now, as expected, VYM’s chart (in red) is higher along the Y-axis (dividend paid) than for VIG due to the fact that it pays better yields.

Source: Computed by author through data from Nasdaq.com

However, things look different when calculating the total amount of dividends paid during this period. It is $20.16 for VYM while $16.28 for VIG, which is again normal, but upon computing the total amount by which VYM exceeds VIG, I found that the former paid 24% (((20.16-16.28)/16.28)*100)) more dividends than VIG. This is substantially less than the 70% figure by which VYM’s yield exceeds its peer.

VIG offers better total returns

Consequently, when computed over a period of time, VYM’s higher yields do not translate into the same percentage of income gains as provided by VIG. This signifies that VIG has been growing its dividend faster than its peer. Additionally, the Vanguard Dividend Appreciation ETF has produced a better five-year share price performance, or capital gains. As a result, it is VIG which has delivered better total returns by (116.4-78.15) or 38.25% as per the chart below.

Source: Ycharts.com

Furthermore, VIG offers exposure to Industrials (20.70%), Financials (15.00%), technology (14.6%) and Healthcare (13.20%), which means more sector-based diversification compared to VYM to better navigate inflation-induced volatility. Finally, increased contributions also matter more at times when the market is volatile as it helps provide income and security when it is needed the most, and especially in the current market environment where total return across any of the major indices is likely to be lower than in 2021.

Disclosure: This is an investment thesis and is intended for informational purposes. Investors are kindly requested to do additional research before investing.

SPYD: A High Dividend ETF to Also Benefit From Return to Office

This level of change was unprecedented in the 200 years old history of industrialization and resulted in millions of square feet of prime office space suddenly becoming useless as cohorts transformed working habits in order to reduce Covid infection risks. Going a step further, government departments, as well as companies from Microsoft (MSFT) to Google (GOOG), extended the time period their employees could work remotely to more of a hybrid mode due to Covid variants.

WFH, Vaccination Efficiency and REITs

However, while WFH has helped to reduce costs, its contribution to productivity remains debatable, and with higher vaccination rates in 2022, the return to office momentum could be accelerated. This should in turn benefit office REITs or Real Estate Investment Trusts.

With 16.81% real estate exposure, the SPDR S&P 500 (SPYD), is a high dividend yield ETF. It also includes 19% of financials, a positive in a rising rate environment which should be favorable to banks. On the other hand, the ETF also has some exposure to IT, which depending on the valuations of the individual holdings, is currently suffering from a rotation away from technology names.

However, the fact that this exposure is limited to 5.75% still makes SPYD a more appealing choice when compared to the Vanguard High Dividend Yield ETF (VYM), for example, which includes 8% of technology stocks as part of its holdings. Additionally, the Vanguard ETF does not include any REIT stock as part of holdings.

https://static.seekingalpha.com/uploads/2022/1/9/49663886-16417204616864512.png
Source: ssga.com

I also like the SPDR ETF as it pays higher dividends, at a yield of 3.54% compared to its peer’s 2.74%.

Best REIT ETFs

Scanning the industry, in order to fully benefit from a return to office one can also choose the SPDR Dow Jones REIT ETF (RWR) or the highly popular Vanguard Real Estate ETF (VNQ), but, given future uncertainty as to the possibility of Covid variants impacting a full resumption of office work together with the diversification rationale, it is better to opt for an ETF with partial exposure to REITs like SPY. For this purpose, it follows the S&P 500 High Dividend Index and carries an expense ratio of just 0.07%.

In addition to providing higher quarterly income, SPYD, with a gain of 28.21%, has outperformed the broader market (S&P 500) by more than 5% in the last year. This outperformance has even been more pronounced during the last one month at more than 7% (6.82% minus -0.24%) as shown in the red and blue charts below, and should continue as investors pour more money on the cyclical sectors like Consumer Staples and Energy to bank on the economic recovery, at the expense of tech.

https://static.seekingalpha.com/uploads/2022/1/9/49663886-16417216689965916.png
Source: Trading View

To further make my point about SPYD benefiting from REITs and being less exposed to tech is its superior one-month performance compared to VYM’s 4.28% as shown in the orange chart above.

Finally, SPYD forms part of a list of ten high-yield ETFs for income-minded investors computed by Kiplinger, aiming for balancing risks and rewards in the quest for better-than-average yields.

Disclosure: I am long SPYD.