Although the Federal Reserve has confirmed that tapering of its bond-buying program will be reduced to $75 billion per month from $85 billion, the central bank also reaffirmed its commitment to keep interest rates low for the foreseeable future.
That means 2014 is not likely to be much more kind to investors holding cash or U.S. Treasuries and that should foster further inflows to dividend exchange traded funds. As it is, dividend ETFs are coming off an exceptional year.
“Dividend weighted- funds once again led Strategic Beta with $27.6bn of flows this year, more than double the $13.1bn collected in 2012. Many income-seeking investors have turned to dividend stocks as bond alternatives in a persistent low-interest rate environment,” noted BlackRock in mid-December. [2013 ETF Landscape]
Conservative investors looking to generate income in a low interest rate environment have plentiful options with ETFs, including the PowerShares S&P 500 High Dividend Portfolio (NYSEArca: SPHD). SPHD, which debuted in October 2012, has almost $142 million in assets under management and a trailing 12-month yield of 3.61%. That is comfortably above the yield on 10-year Treasuries – at least for the moment.
“There is a free lunch for investors here. Even though valuations for dividend stocks are rich, the estimated payout from low-volatility, dividend stocks should be relatively consistent,” said Philip DeMuth of Conservative Wealth Management of SPHD in an interview with Investor’s Business Daily.
SPHD tracks the S&P 500 Low Volatility High Dividend Index, which is comprised of 50 stocks taken from the S&P 500 that have historically exhibited high dividend yields and low volatility. That along with the monthly dividend make the ETF something of a catch for conservative, income-seeking investors. [ETF Spotlight: Low Volatility and High Dividends]
Still, SPHD may not be a “free lunch” in the truest sense of the phrase. Low volatility ETFs took their lumps in 2013 as 10-year Treasury yields spiked, highlighting the rate sensitivity of the utilities and telecom sectors. Those sectors combine for 27.5% of SPHD’s weight. [Low Vol ETFs Take Their Lumps]
SPHD also has 16.5% weight to consumer staples, the second-most expensive sector in the S&P 500, but with a P/E of 16.6, the ETF itself is not too richly valued relative to U.S. large-caps. Eight of the ETF’s top-10 holdings are either staples or utilities stocks.
Consumer discretionary, industrials and technology, the top performing sectors when rates rise, represent a combined 19.3% of SPHD’s weight, helping to deflect some of the utilities exposure. And just because Treasury yields rise, that is not a guarantee of downside for SPHD. After all, the fund gained almost 14% last year.