New Fund Brings Dividend Growth In Small Caps

NEW YORK (TheStreet) -- The latest wave of income oriented ETFs focuses on companies with track records for dividend growth. In the last few weeks the market has seen the EG Shares Emerging Markets Dividend Growth ETF (EMDG) and the WisdomTree US Dividend Growth Fund (DGRW)start trading. Right on the heels of DGRW WisdomTree then launched the US Small Cap Dividend Growth Fund (DGRS).

There are several ways to assemble dividend growers and in the case of DGRS there is more to it than something simple like 10 years of dividend increases. The constituents of the WisdomTree Small Cap Dividend Index are scored for long term earnings growth expectations and returns on equity and assets for the last three years. The top 50% based on this process are then dividend weighted based on expected dividends in the coming year to populate DGRS.

The yield for DRGS' underlying index is 1.98% which after accounting for the 0.38% expense ratio could put the yield at 1.60% compared to 1.4% for the iShares Russell 2000 ETF ( IWM). As a brand new fund DGRS has not paid any dividends yet, the 1.60% is just an indication.

That may not seem like a high yield but that isn't necessarily the point with dividend growth investing. The growth aspect in this context has to do with growth in dividend such that the payout grows at a rate greater than inflation. People subscribing to this method of investing expect to live off of dividend stream created by their portfolio in retirement and if the dividends keep growing then they will never have to touch their principle. There is plenty of research to support the validity of this strategy including at the WisdomTree web site.

An important point to consider is whether or not the process underlying DGRS results in a fund that looks different than the benchmark IWM. If the two were essentially the same fund then it wouldn't make sense to pay the extra 18 basis points in fees to own DGRS.

At the sector level the funds look much different. The largest sector in DGRS is industrials at 25% followed by consumer discretionary 24%, materials 14% and technology at 13%. IWM has 24% in financials. Discretionary, tech and industrials all at weighted at 14% and health care at 12%. Those differences in sector makeup should be enough that the funds are not identical.

Over short periods of time it is unlikely that DGRS will diverge much from IWM. Since coming out two months ago the large cap DGRW has traded in line with the SPDR S&P 500 ( SPY). Dividend growth investing does not offer the potential for instant trade gratification that might come from having bought the Global X Social Media Index ETF ( SOCL) before the FaceBook ( FB) earnings report. In the last week SOCL was up 3% versus a decline of almost 1% for the broad market.

Investment strategies involving things like dividend growth or low volatility indexing are about seeking a long term result which puts a greater emphasis on the need to be patient. There can be no guarantee that dividend growth will be the right strategy for the next five or 10 years but there will be no victory or defeat with it 12 months from now. No great investor ever said the key to their success was being impatient.

At the time of publication the author held no positions in any of the stocks mentioned.

This article is commentary by an independent contributor, separate from TheStreet's regular news coverage.

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