Investors should consider the benefits of high dividend ETFs, the role dividend-oriented strategies can play in asset allocation, and the potential opportunity in equity income over the next decade.
In the recent webcast, Why You Should Consider Allocating to High Dividend Stocks in 2023, Debbie Bickerstaff, senior vice president and portfolio manager at Federated Hermes, noted that dividends have been a key contributor to total returns since 1926, with both dividend yield and dividend growth contributing more to total returns than valuation changes.
Looking ahead, Bickerstaff argued that dividends will continue to play their part, especially with an aging population that will rely more on income to supplement their retirement years. After 40 years of declining yields, rates are finally rising in high-yielding fixed income. By the end of 2020, less than 6% of the fixed income universe offered a yield greater than 4%. By 2030, 73 million Americans are expected to be over age 65 or more than one in five, representing a 49% increase from 2016 levels.
Bickerstaff noted that dividend growers and payers since 1977 have outperformed in periods following a Federal Reserve’s interest rate hike. Furthermore, high dividend stocks outperformed high dividend growth stocks and the broad market during high inflation. When inflation exceeded 4% to 5%, the highest dividend yield stocks outperformed both the market and dividend growth stocks.
As a way to focus on the high dividend-paying stock segment, investors can turn to something like Federated Hermes’ recently launched Federated Hermes U.S. Strategic Dividend ETF (NYSE Arca: FDV). The new actively managed ETF seeks income and long-term capital appreciation by investing in U.S. companies with dividend yields above the S&P 500 Index average.
FDV pursues a higher dividend yield than the broad market average. The fund invests in companies that are positioned to increase dividend payments. In addition, the strategy seeks to offer competitive upside performance in strong market environments and lower downside risk in periods of market weakness.
Emory Redd, vice president of Portfolio Construction Solutions Group at Federated Hermes, noted that high dividend strategies offer a lower correlation to the market than dividend growth strategies. For instance, the three-year rolling correlation Russel 1000 Index to Morningstar Dividend Yield Focus Index was 0.84. In comparison, the three-year rolling correlation of the Russell 1000 Index to Morningstar US Dividend Growth Total Return Index was 0.93.
Moreover, Redd added that allocating to high dividends resulted in better risk-adjusted performance in 70% of the rolling three-year time frames examined since 2013.
Brandon Clark, director of ETF Business at Federated Hermes, also highlighted the benefits of the ETF structure as a more efficient investment vehicle. In 2021, 69% of actively managed mutual funds paid capital gains, whereas only 14% of active ETFs paid capital gains. Additionally, in 2021, the average capital gains distribution for active mutual funds was 2.08% compared to 0.99% for active ETFs. Consequently, for a $100,000 portfolio, ETFs could have produced a reduction in taxable distributions of $1,090 by retaining the gains.
Financial advisors who are interested in learning more about high dividend stocks can watch the webcast here on demand.