The last couple of years have been tough for dividend ETFs as investors have zeroed mostly into mega-cap tech and growth stocks. Dividend growth stocks, including the aristocrats, have generally performed best. Quality dividend focused ETFs have been middling performers, while high yielders have been the biggest laggard.
In February, we saw a bit of a changing of the guard as investors began rotating out of growth stocks and into cyclicals. Many dividend ETFs, especially the high yielders, tend to be overweight in areas, such as financials and energy, so a rotation into cyclicals tends to benefit dividend ETFs as well. Value has also been doing comparatively well relative to growth and that's been able to provide an additional tailwind.
It's still a little too early to call it a comeback for dividend ETFs, but there are a handful that have done particularly well during the month of February. For the most part, they've tended to focus on high yield equities. This is the group that performed particularly well in February as investors decided to add risk to their portfolios and began pivoting back into cyclical sectors, such as financials and energy.
Because these ETFs focus on higher yields and cyclicals, the future success of these funds likely depends on how the economic recovery plays out throughout 2021. If we're able to achieve mass vaccine distribution, the infection rates continue to come down and people and businesses are able to get back to work, there's every reason to believe that GDP growth will be strong this year and riskier asset classes will remain in favor.
Here are the five ETFs that managed to produce double digit total returns during the month of February.
Invesco S&P Ultra Dividend Revenue ETF (RDIV)
RDIV uses a rather unique, but completely logical, portfolio construction strategy.
It starts with the S&P 900 index (essentially including all large-caps and mid-caps) and then applies the following screens and weightings.
- excludes the top 5% of securities by dividend yield
- excludes the top 5% of securities within each sector by dividend payout ratio
- selects the top sixty securities by dividend yield
- re-weights those securities according to the revenue earned by the companies, with a maximum 5% per company weighting
The first two bullets help eliminate some of the riskiest securities from consideration. The revenue weighting strategy is designed to overweight companies that are cash flow generators and aren't just "big" based on share price (think Tesla).
More than half of the portfolio is weighted towards cyclical sectors, exactly the areas of the market that outperformed in February.
First Trust Dorsey Wright Momentum & Dividend ETF (DDIV)
DDIV tracks the Dorsey Wright Momentum Plus Dividend Yield Index, a rules-based equity index that is designed to track the overall performance of the 50 highest dividend yielding stocks within the NASDAQ U.S. Large Mid Cap Index that maintain high levels of relative strength. Dorsey Wright is one of the world's premier momentum-based asset managers.
Each potential component is assigned a relative strength score based on its forward price momentum compared to the momentum of a broad market benchmark index. Securities that exhibit a minimum level of relative strength are eligible for inclusion in the index.
Eligible securities are then ranked based upon their current dividend yield with the top 50 securities with the highest dividend yield qualifying for inclusion. Greater weights given to securities with higher dividend yields.
DDIV has nearly 2/3 of its assets in the financial sector helping to propel its outperformance last month.
SPDR Russell 1000 Yield Focus ETF (ONEY)
ONEY uses a smart beta multi-factor approach to portfolio construction by targeting stocks from the large-cap Russell 1000 index that demonstrate a combination of high value, high quality, and low size characteristics. The focus, however, is on those stocks with above average yields that meet the qualifying criteria.
ONEY is another fund that's heavily overweight in cyclicals, about a 45% weighting in total. While it's tilted towards high yield stocks, it doesn't necessarily produce a huge yield. Its currently pays about 2.5%, although its yield has typically hovered in the 3-4% range historically.
Invesco KBW High Dividend Yield Financial ETF (KBWD)
This ETF really hit the sweet spot in February. It's comprised entirely of bank and financial services companies, one of the market's top performing sectors, while its high yield tilt generally capturing the best performing stocks within that sector.
KBWD tracks the KBW Nasdaq Financial Sector Dividend Yield Index. With a starting universe of financial sector companies (which could include BDCs and REITs), the fund dividend weights qualifying components, which produces a portfolio of about 40 high yield stocks. KBWD is a pure yield seeker's delight offering a current payout rate of around 8% annually. It does, however, tilt heavily towards small-caps making it a fairly risky fund.
VictoryShares US Small Cap High Dividend Volatility Weighted ETF (CSB)
Small-caps were on a tear in February and CSB was well-positioned to benefit. Its focus on high yielders adds the potential for a little more risk, but going after the lowest volatility stocks among the potential universe of qualifiers helps to mitigate some of that risk.
In order to qualify for the initial universe, companies must have a market cap of no more than $3 billion, have positive net earnings over the prior 12 months, must not be a REIT and must meet certain liquidity and tradeability requirements. The 100 highest yielding securities that meet the above criteria are selected for the index with lower volatility securities receiving higher weightings.
The requirement of positive net earnings is a plus that helps ensure the dividend is sustainable and reduces a degree of risk. Low volatility stocks haven't necessarily been rewarded over the past several months, but over the long-term this should provide a nice balance between yield, capital growth potential and risk management.