Tag Archives: portfolio

High Dividend Yield ETFs Deserve Further Inspection

Summary These four dividend ETFs include 3 with extremely high dividend yields for an equity fund without REITs. SDOG comes up as my favorite after I looked through the allocation strategies each fund was using. FVD reports a net expense ratio of .65% in their fact sheet. Yahoo reports a .70% net ratio for the fund. With the exception of SDOG, the ETFs currently have very high allocations to the consumer defensive sector and the utility sector. One of the areas I frequently cover is ETFs. I’ve been a large proponent of investors holding the core of their portfolio in high quality ETFs with very low expense ratios. The same argument can be made for passive mutual funds with very low expense ratios, though there are fewer of those. In this argument I’m doing a quick comparison of several of the ETFs I have covered and explaining what I like and don’t like about each in the current environment. Ticker Name Index SDOG ALPS Sector Dividend Dogs ETF S-Network® Sector Dividend Dogs Index FDL First Trust Morningstar Dividend Leaders Index ETF Morningstar Dividend Leaders Index PEY PowerShares High Yield Equity Dividend Achievers Portfolio ETF NASDAQ US Dividend Achievers® 50 Index FVD First Trust Value Line Dividend ETF Value Line(R) Dividend Index By covering several of these ETFs in the same article I hope to provide some clarity on the relative attractiveness of the ETFs. One reason investors may struggle to reconcile positions is that investments must be compared on a relative basis and the market is constantly changing which will increase and decrease the relative attractiveness. Dividend Yields I charted the dividend yields from Yahoo Finance for each portfolio. The First Trust Value Line Dividend ETF is the weakest of the batch on dividend yields. The yield isn’t weak overall, but it is lower than I would have expected. (click to enlarge) Expense Ratios The expense ratios run from .40% to .70% according to Yahoo Finance. (click to enlarge) I thought the expense ratio for FVD seemed a little too high at .70% so I decided to pull up their Fact Sheet through MorningStar which indicates a net expense ratio of .65%. For consistency sake I’ve stuck with the values reported by Yahoo in the chart, but it appears the fund is reporting a lower net expense ratio. I also checked the ETF through Charles Schwab and saw a .65% ratio there. Sector I built a fairly nice table for comparing the sector allocations across dividend ETFs to make it substantially easier to get a quick feel for the risk factors: (click to enlarge) First Glance FDL and PEY get some immediate respect from me for their very high allocations to the consumer defensive sector. It is also notable that FLD, PEY, and FVD all use heavy allocations to utilities. While several dividend ETFs include at least some allocation to real estate, there was a 0% allocation for the first 3 ETFs. As we get into ETFs with higher expense ratios, it is worth noting that many may have more complicated weighing structures that will materially vary over time and therefore the investor needs to either buy in completely to the strategy of the fund or keep an eye on the sector allocations or both to prevent becoming overweight on specific sectors. SDOG SDOG uses the most even allocation strategy out of all the funds. I have to admit that I like that part of their strategy. I wondered if that was random chance or if the company was doing it intentionally, so I pulled up the quarterly factsheet . It turns out that this is an intentional choice and that the portfolio is designed to maintain that allocation: “SDOG provides high dividend exposure across all 10 sectors of the market by selecting the five highest yielding securities in each sector and equally weighting them. This provides diversification at both the stock and sector level.” FDL The allocations for FDL feel pretty heavy on communication services to me, but each fund here changes their positions materially over time. The process for building the index includes a “Proprietary multi-step screening process”. There are a couple other comments, but in general it seems the system is designed to create a bit of a black box. Investors that want to read further into it can check out the fact sheet . PEY PEY is based on the NASDAQ U.S. Dividend Achievers 50 Index. Both the fund and index are reconstituted each year in March and the positions are rebalanced on a quarterly basis. Again, it is possible for the sector allocations to change materially which makes it important to look into the positions regularly. I appreciate funds that opt for a strategy with more rationality behind it than “the portfolio is market-cap weighted, we don’t do anything”. On the other hand, when the fund does not appear to be using strict sector weight limits it creates some risk of having more concentration than I would want in the portfolio. The yield is great and I really like the current allocations, but there is a material risk of the portfolio changing significantly in March. On the positive side, since the index is only reconstituted once in March each year investors can take a look at which securities were selected and decide if they feel comfortable holding that portfolio. If the investor believes in rebalancing, then the expense ratio on the fund may be significantly cheaper than the commissions the trader would incur. FVD The allocation process for FVD is also fairly complex. The index is based on whittling down the available universe of stock securities based on their Value Line® Safety Rating. After the available universe has been screened, the fund picks the companies with dividend yields that are higher than average for the S&P 500. To avoid allocation to smaller companies, anything with a market cap below $1 billion is removed from consideration. What do You Think? After looking through the allocation strategy for each fund, I think SDOG is my favorite of the batch. Which dividend ETF makes the most sense for you?

The Limits Of Risky Asset Diversification

Do you want to reduce the volatility of your asset portfolio? I have the solution for you. Buy bonds and hold some cash. Now once upon a time, in ancient times, prior to the Nixon Era, no one hedged, and no one looked for alternative investments. Those buying stocks stuck to well-financed “blue chip” companies. The diversification from investor behavior is largely gone (the liability side of correlation). Spread your exposures, and do it intelligently, such that the eggs are in baskets are different as they can be, without neglecting the effort to buy attractive assets. But beyond that, hold dry powder. Think of cash, which doesn’t earn much or lose much. Think of some longer high quality bonds that do well when things are bad, like long treasuries. Photo Credit: Baynham Goredema . When things are crowded, how much freedom to move do you have? Stock diversification is overrated. Alternatives are more overrated. High quality bonds are underrated. This post was triggered by a guy from the UK who sent me an infographic on reducing risk that I thought was mediocre at best. First, I don’t like infographics or video. I want to learn things quickly. Give me well-written text to read. A picture is worth maybe fifty words, not a thousand, when it comes to business writing, perhaps excluding some well-designed graphs. Here’s the problem. Do you want to reduce the volatility of your asset portfolio? I have the solution for you. Buy bonds and hold some cash. And some say to me, “Wait, I want my money to work hard. Can’t you find investments that offer a higher return that diversify my portfolio of stocks and other risky assets?” In a word the answer is “no,” though some will tell you otherwise. Now once upon a time, in ancient times, prior to the Nixon Era, no one hedged, and no one looked for alternative investments. Those buying stocks stuck to well-financed “blue chip” companies. Some clever people realized that they could take risk in other areas, and so they broadened their stock exposure to include: Growth stocks Midcap stocks (value & growth) Small cap stocks (value & growth) REITs and other income passthrough vehicles (BDCs, Royalty Trusts, MLPs, etc.) Developed International stocks (of all kinds) Emerging Market stocks Frontier Market stocks And more… And initially, it worked. There was significant diversification until… the new asset subclasses were crowded with institutional money seeking the same things as the original diversifiers. Now, was there no diversification left? Not much. The diversification from investor behavior is largely gone (the liability side of correlation). Different sectors of the global economy don’t move in perfect lockstep, so natively the return drivers of the assets are 60-90% correlated (the asset side of correlation, think of how the cost of capital moves in a correlated way across companies). Yes, there are a few nooks and crannies that are neglected, like Russia and Brazil, industries that are deeply out of favor like gold, oil E&P, coal, mining, etc., but you have to hold your nose and take reputational risk to buy them. How many institutional investors want to take a 25% chance of losing a lot of clients by failing unconventionally? Why do I hear crickets? Hmm… Well, the game wasn’t up yet, and those that pursued diversification pursued alternatives, and they bought: Timberland Real Estate Private Equity Collateralized debt obligations of many flavors Junk bonds Distressed Debt Merger Arbitrage Convertible Arbitrage Other types of arbitrage Commodities Off-the-beaten track bonds and derivatives, both long and short And more… one that stunned me during the last bubble was leverage nonprime commercial paper. Well guess what? Much the same thing happened here has happened with non-“blue chip” stocks. Initially, it worked. There was significant diversification until… the new asset subclasses were crowded with institutional money seeking the same things as the original diversifiers. Now, was there no diversification left? Some, but less. Not everyone was willing to do all of these. The diversification from investor behavior was reduced (the liability side of correlation). These don’t move in perfect lockstep, so natively the return drivers of the risky components of the assets are 60-90% correlated over the long run (the asset side of correlation, think of how the cost of capital moves in a correlated way across companies). Yes, there are some that are neglected, but you have to hold your nose and take reputational risk to buy them, or sell them short. Many of those blew up last time. How many institutional investors want to take a 25% chance of losing a lot of clients by failing unconventionally? Why do I hear crickets again? Hmm… That’s why I don’t think there is a lot to do anymore in diversifying risky assets beyond a certain point. Spread your exposures, and do it intelligently, such that the eggs are in baskets are different as they can be, without neglecting the effort to buy attractive assets. But beyond that, hold dry powder. Think of cash, which doesn’t earn much or lose much. Think of some longer high quality bonds that do well when things are bad, like long treasuries. Remember, the reward for taking business risk in general varies over time. Rewards are relatively thin now, valuations are somewhere in the 9th decile (80-90%). This isn’t a call to go nuts and sell all of your risky asset positions. That requires more knowledge than I will ever have. But it does mean having some dry powder. The amount is up to you as you evaluate your time horizon and your opportunities. Choose wisely. As for me, about 20-30% of my total assets are safe, but I have been a risk-taker most of my life. Again, choose wisely. PS – if the low volatility anomaly weren’t overfished, along with other aspects of factor investing (Smart Beta!) those might also offer some diversification. You will have to wait for those ideas to be forgotten. Wait to see a few fund closures, and a severe reduction in AUM for the leaders…

How To Think About M&A When It Comes To Your Portfolio

What do mergers and acquisitions have to do with your portfolio? A lot, says BlackRock’s Mark McKenna – especially in today’s market. It’s been a remarkable year for financial markets, highlighted by extreme volatility, severe weakness in commodities and a raging debate about interest rates, among other things. But there’s another ongoing market trend of great importance to investors, one that could offer substantial opportunity: M&A. Merger and acquisition activity has been on a torrid pace in 2015, on track to surpass 2007’s record levels. Through November, more than $4.5 trillion worth of mergers have been announced year-to-date, and the activity in the third quarter was the strongest on record for that period, according to Citi. The flurry of deals is a reflection primarily of three factors: low interest rates, robust corporate balance sheets and a global economy that remains sluggish. Low rates make funding acquisitions more affordable, and companies that have a difficult time growing their earnings when the economy is soft often look for attractive merger candidates to help spur their growth. Mergers, Acquisitions and Your Portfolio So how can investors take advantage of this trend? Well, for starters let’s quickly cover what not to do. Simply guessing at which companies might be takeover targets and buying as much stock as you can is not a good idea. Investors should never buy a stock based simply on a hunch that the company may someday be a buyout target. Instead, investors might consider employing what we call an “event-driven” strategy. Event-driven investing focuses on capturing the value gap created when companies undergo transformative events, or “catalysts.” The idea behind the strategy is to invest in a company undergoing a material change that is expected to impact shareholder value. We define catalysts as either “hard” or “soft.” A hard catalyst, such as an announced merger, tends to have a defined outcome, which creates a more predictable return. A soft catalyst, perhaps a company undergoing a senior management change, can have a range of outcomes. One advantage of these investments is that, because they are focused on company-specific developments and not broader market events, they are less correlated with day-to-day market movements. By extension, such event-driven strategies have the potential to generate positive returns regardless of overall market moves. (click to enlarge) From my perspective, the record M&A activity that we’ve seen this year has created the most attractive opportunity we’ve seen in the last 10 years, with merger spread investments near all-time high rates of returns. When compared to other yield asset classes, including high yield bonds, Real Estate Investment Trusts (REITs) and even many illiquid yield investments, merger spreads may offer higher returns with much less duration risk. As a result, merger investments can potentially provide investors equity-like returns with volatility usually associated with stocks, according to data from Bloomberg and Hedge Fund Research Inc. With the stock market both volatile and near all-time highs, and fixed income yields hovering near historic lows, investors should consider different ways to diversify their portfolios. Event-driven strategies are one way to do that, offering not only the potential for positive returns in both up and down markets, but also potentially reducing portfolio risk. Mark McKenna is Global Head of Event-Driven equity and a Managing Director at BlackRock. This post originally appeared on the BlackRock Blog.