Wed. May. 6, 2009

Are ETFs and CEFs Good Income Investments? *

Dividend investing is not about buying high-yield stocks to generate a high income. Instead, dividend investing is all about finding solid dividend stocks that are reasonably priced and are expected to continue raising their dividends in the future. Most of the time their current yields aren’t eye-popping, but the growing divdends over time will more than compensate for the current yield.  So, are Exchange Traded Funds (ETFs) and Closed Ended Funds (CEFs) a good fit for this strategy?

A couple of years ago, I started adding select ETFs and CEFs to my income portfolio. At the time, my thought process was that these funds would diversify my risk and add a degree of stability to my income portfolio. Initially, I had high hopes for their success.  Here’s what I am holding and a synopsis of how they have performed:

Vanguard Financials ETF (VFH)

Vanguard® Financials ETF seeks to track the performance of a benchmark index that measures the investment return of financial stocks.

I first purchased VFH in August 2007. Like the financials it tracks, VFH’s dividend has steadily fell from $0.45/share in October 2007 to $0.06/share in March 2009.

PowerShares International Dividend Achievers Portfolio (PID)

PID seeks to match the performance of the International Dividend Achievers Index by investing at least 90% of its total assets in dividend paying common stocks of this index. This index tracks the performance of dividend paying American Depositary Receipts or ordinary stocks trading on the NYSE, NASDAQ or AMEX.

I initially invested in this fund back in July 2008.  It has paid out three dividends since then, each less than the one before (9/08-$0.14/share, 12/08-$0.09/share and 3/09-$0.03/share). Not a good trend.

Vanguard REIT ETF (VNQ)

Vanguard® REIT ETF seeks to provide a high level of income and moderate long-term capital appreciation by tracking the performance of a benchmark index that measures the performance of publicly traded equity REITs.

I initiated my VNQ position in August 2007.  VNQ’s dividends have been unpredictable and inconsistent.

SPDR S&P Dividend ETF (SDY)

The Fund seeks to replicate as closely as possible, before expenses, the price and yield of the S&P High Yield Dividend Aristocrats Index. The Fund uses a passive management strategy designed to track the price and yield performance of the Dividend Index.

I first purchased SDY in August 2007. I have received seven dividends ranging between a low of $0.4410 (April 2009) to a high of $0.5917 (January 2009). I found it somewhat odd that the low and high dividends both came in 2009.

Vanguard High Dividend Yield ETF (VYM)

Vanguard® High Dividend Yield ETF seeks to track the performance of a benchmark index that measures the investment return of common stocks of companies that are characterized by high dividend yields.

I first bought into VYM in August 2007.  It dividends have slowly drifted lower since that time. They have not been as volatile, but there is no question as to the direction.

Vanguard Dividend Appreciation ETF (VIG)

Vanguard® Dividend Appreciation ETF seeks to track the performance of a benchmark index that measures the investment return of common stocks of companies that have a record of increasing dividends over time.

VIG is another ETF that I first purchased in August 2007. During the time I owned it, VIG’s dividend has flucuated between $0.22/share and $0.28/share.

Eaton Vance Tax-Advantaged Global Dividend Opportunity (ETO)

ETO is a diversified, closed-end management investment company. The Fund’s investment objective is to provide a high level of after-tax total return. It invests primarily in dividend-paying common and preferred stocks.

I first purchased ETO in July 2008. ETO paid a steady dividend of $0.1795/share through December 2008. It then dropped its dividend to $0.1167/share.

Alpine Total Dynamic Dividend Fund (AOD)

AOD attempts to optimize both dividend income and long-term growth of capital. This is a very diverse and flexible fund. It employs a global, multi-cap, multi-sector, and multi-style investment approach. The fund combines four research-driven investment strategies – Growth, Value, Special Dividends, and Dividend Capture Rotation.

I first purchased AOD in December 2007. It paid monthly dividends of $0.18/share through February 2009 before cutting its monthly dividend to $0.12/share.

Vanguard Long-Term Bond ETF (BLV)

The Fund seeks to match the investment performance of the Lehman Brothers Mutual Fund Long Government/Corporate Index. Holdings include Corporate Notes/Bond 51.5%, Treasury Notes/Bonds 40.2% and Government Agency Securities 6.5%.

I first purchased BLV in December 2008. Since that time I have received five dividend all approximately $0.34/share. This has been the one bright spot amoung the group. As a long-bond fund, it has behaved as I expected it would.


Back to the original question: Are Exchange Traded Funds (ETFs) and Closed Ended Funds (CEFs) a good fit for this dividend investing? At this point, I would say no, for the most part. For many of the same reasons that international investments are not a good fit for a dividend-based investing strategy, I have found the same true with ETFs and CEFs.

It has been my experience that ETFs/CEFs dividends exhibit a higher degree of volatility than individual dividend stocks. Since most of the above funds are based on an index, they are forced to buy the bad stocks with the good stocks. This will inherently increase the volatility of the funds dividend payments. Those with international holdings are subject to currency conversion and a different dividend payout philosophy. In the income portion of my portfolio, I place a great deal of value on stability and consistency. ETFs and CEFs have a difficult time delivering either.

The funds are listed is ascending order from least desirable to most. I have already stopped purchasing the above funds, except BLV.  I will now work on eliminating or minimizing my position in most of them, starting at the top of the list and working down.

Full Disclosure: Long VFH, PID, VNQ,  SDY, VIG, VYM, ETO, AOD, BLVSee a list of all my income holdings here.

12 Responses to “Are ETFs and CEFs Good Income Investments? *”

  1. TMT says:

    Does looking at data back to 2007 give you enough information to sell?

    I would prefer the BND to the BLV. Similar dividends and a lot less risk if interest rates start going up.

  2. Bootstrap says:

    Do you ever think about the limits of dividend investing? If you are interested an income stream for the future, why wouldn’t you invest in the best opportunities that you could find, regardless of dividend state. Then down the road, harvest your gains and roll the proceeds into dividend stocks at that time, or even an annuity. I have a post on the downsides of dividends here: http://bootstrapinvesting.com/2009/04/20/why-dividends-suck.aspx
    I’d be interested in your thoughts.

  3. TMT: During a bear market is really where all meaningful evaluations take place – everything looks good in a bull market. I am looking for predictable and consistent dividends from my income portfolio. The ETFs/CEFs can’t produce this in a bear market. They are not bad investments, but they just don’t meet my requirements for this portfolio.

    Bootstrap: Dividend investing is only one part of my total portfolio. I find it the most interesting, so it is the one I blog about. Occasionally, I will touch on some of my other holdings, but I generally avoid it. Here is a link to a

    Not to one up you, but last June I posted “The Dark Side of Dividends” in which I listed 5 reasons for not paying a dividend. Some were the same you listed in your post.

    As for your post, we can agree on #3. I am not a DRIP fan. I accumulate dividends over a month, then invest them in whatever stock is the best value and fits my asset allocation. I am not sure I understand your #4. I evaluate every company that i own at least quarterly. An investor can be lazy using any type of investment strategy. Numbers 2 and 1, I addressed in the post above.

    One other point, if you totally rely on capital gains, you better time your retirement well. Secular bear markets can sometime last a decade. If you retire at the beginning of of one, you will quickly eat through your nest egg.

    Best Wishes,

  4. Monevator says:

    Here it the UK there’s an income/dividend based ETF from iShares (Barclays) that’s been yielding 8% plus for two years now. People bought it as an income play, but they’ve seen its capital value crushed. In retrospect it is more like a geared investment on fear/greed (since at bullish times yields go down and vice versa).

  5. Bootstrap says:

    Hi D4L,

    Thanks for the response. I must admit, I like your post title “The Dark Side of Dividends” 😉 I didn’t realize that your dividend portfolio was a portion of your overall total. I take your point on investors being able to be lazy with just about any strategy, but since you blog on the topic – do you think dividend investors might be particularly susceptible to be lulled into a false sense of security?

    I take your point with capital gains, but like you said, one can be lazy with any strategy. I was just pointing out when evaluating competing investments particularly for a long term holding, wouldn’t the investment with the best total return be the best place for your money, regardless of dividend status? Also, I simplify somewhat, clearly you would want to convert your gains into income producing investments over time to avoid any market timing impacts.

    I guess another way to phrase the question – you mention that your portfolio has only a portion of income stocks that you write about, why is that? I’d be interested in understanding that – maybe in a future post.

    Thanks – I enjoy your blog,

  6. Bootstrap:

    >do you think dividend investors might be
    >particularly susceptible to be lulled into
    >a false sense of security?

    If they were, this market should have cured it.

    >when evaluating competing investments
    >particularly for a long term holding,
    >wouldn’t the investment with the best total
    >return be the best place for your money

    Over time, dividend stocks have done quite well compared to the market as a whole. More on this in Wednesday’s post.

    >income stocks that you write about, why
    >is that?

    Most of my other holdings are mutual funds, ETFs and CEFs. I am currently researching international (emerging markets) funds to increase my exposure in that area – I find it dreadfully boring. I much prefer to research an individual company and understand its persona. Here is you a link to a non-income post:


    BTW, this fund has been dreadful up to this point.

    Best Wishes,

  7. Bootstrap says:

    One last thought – the reason I first wrote about this topic was that I saw the concept of buying dividend stocks and “get paid while you wait” alot in the popular financial press – which I think is a gross oversimplification of the process. Based on your research process I’m guessing you would agree.

    As an aside, I too am interested in more international exposure but would prefer to invest in individual companies. If you stumble on any interesting non-US companies in your research a post in that area would be appreciated.



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