Finding Fatter Yields Abroad: SDY vs. FGD

NEW YORK ( TheStreet) -- Desperate for yield, investors have been pouring into dividend ETFs. A popular choice is SPDR S&P Dividend ( SDY), which yields 2.9%. But you can get richer yields with foreign dividend funds. First Trust Dow Jones Global Select Dividend ( FGD) yields 5.7%, while iShares Dow Jones International Select Dividend ( IDV) yields 5.4%.

Foreign stocks have long yielded more than their U.S. counterparts. The gap developed over decades because Wall Street did not focus on dividends. Instead of insisting that companies use cash for dividends, many institutional investors urged corporate managements to reinvest in their businesses or buy back shares.

Foreigners had a different attitude. In Europe and the emerging markets, many companies have been dominated by founding families that preferred receiving hefty dividends.

In recent years, U.S. stocks have been increasing their dividend payouts, but they still trail foreigners by a substantial margin. While U.S. shares account for 47% of the value of global stock markets, American companies only pay 29% of all dividends, says Jeremy Schwartz, research director of Wisdom Tree Asset Management.

Besides offering extra income, international dividend funds can provide diversification because of their exposure to foreign currencies. When the dollar sinks against the euro -- as happened in recent months -- the value of foreign stocks climbs for U.S. investors.

Should income investors dump all their U.S. funds and shift to foreign ETFs? Not necessarily. If the euro collapses, the value of foreign funds could sink. Still, dividend investors have considerable reason to put at least some assets in foreign ETFs.

Among the highest yielding foreign ETFs is Guggenheim S&P Global Dividend Opportunities Index ( LVL), which yields 7.8%. The fund holds 100 high-yielding companies that have increased earnings during the past three years and have reported stable or rising dividends. About two thirds of assets are in mid-cap and small stocks.

Because dividend stocks tend to be relatively stable, the Guggenheim portfolio is less volatile than many competitors that include nondividend stocks. But like many dividend funds, Guggenheim fell hard during the turmoil of 2008. Part of the problem was that banks and other financial stocks are among the biggest dividend payers. Financials account for 28% of Guggenheim's assets. As the financial crisis unfolded, bank stocks collapsed.

Another fund with a sizable financial stake is the aforementioned First Trust Dow Jones Global Select Dividend. After sinking in 2008, First Trust rallied sharply. During the past three years, the fund has returned 7.8% annually, topping the average world stock fund by more than 2 percentage points, according to Morningstar.

The First Trust fund holds stocks from a broad collection of developed markets, with 16% of assets in Australia, 10% in the U.K. and 6% in Canada. Holdings include Telecom Corporation of New Zealand and Shimao Property Holdings, which develops hotels and shopping malls in China.

Investors who worry about the outlook for banks can try Wisdom Tree International Dividend ex-Financials ( DOO), which yields 4.0%. The fund holds no financials.

Cautious investors have considerable reasons for avoiding banks. While balance sheets have improved since the financial crisis, many European institutions pose question marks. Banks are big holders of sovereign bonds, which could sink if the debt crisis worsens.

The banks could also be hit if the European economy slips deeper into recession and mortgage defaults rise. The Wisdom Tree fund has big stakes in communications companies, such as France Telecom, and health companies, including UK pharmaceutical giant AstraZeneca.

Dividend stocks can be especially appealing in the emerging markets. Companies that pay rich dividends tend to be mature businesses with steady balance sheets. That can provide an important advantage in regions where stocks are volatile and corporate governance may be shaky.

One of the biggest funds in the category is Wisdom Tree Emerging Markets Equity Income ( DEM), which has $4.4 billion in assets and yields 4.0%. Investors flocked to the fund after it proved relatively resilient in the financial crisis. During 2008, Wisdom Tree outdid the average emerging markets fund by 14 percentage points.

Holdings in the Wisdom Tree portfolio must rank in the 30% of stocks with the highest yields. Stocks that pay out the greatest total dividends are weighted most heavily. The list of top 10 holdings includes such giants as Russian gas producer Gazprom and China Construction Bank.

This article is commentary by an independent contributor, separate from TheStreet's regular news coverage.
Stan Luxenberg is a freelance writer specializing in mutual funds and investing. He was executive editor of Individual Investor magazine.