By John Wasik
CHICAGO, August 5 When stock-fund managers beat
the market average, often it's because of a roll of the dice.
Skill may come into play, but only rarely.
Sometimes, though, you can think counter-intuitively and
come out ahead. Such is the case with high-dividend funds that
may avoid loading up on the most glamorous stocks.
Dividends create something of a security blanket around a
stock price. In a market selloff, the stocks with the highest
market capitalization often get dumped and the dividend payers
often stay in portfolios because they promise higher total
To understand why the dividend darling strategy works, you
have to look at which companies consistently pay high dividends.
Although above-average dividends are often a sign that a
company is in trouble, more often than not they reflect healthy
cash flow and future earnings growth. If there are no steady
profits, management won't commit to a dividend that grows on a
One smart way to play the dividend game is the ALPS Sector
Dividend Dogs ETF, an exchange-traded fund that invests
in an index tracking the highest dividend payers in the S&P 500.
The name says it all - this fund doesn't mimic the largest
constituents of the S&P, which represent the most popular
companies by market value. Instead, it targets lower-profile,
less-attractive dividend payers that may offer better stock
valuations than their mega-cap cousins.
In theory, a fund like the "Dogs" combines bargain hunting
with strong dividends, so you're not paying top dollar for
stocks like MeadWestvaco Corp, a global packaging
company; Microchip Technology Inc, which makes
semiconductor products; and Leggett & Platt Inc, a
To date, the ALPS strategy has paid off. It's up 26 percent
year-to-date through Aug. 2, beating the S&P 500 index by more
than four percentage points. For the year, it's up more than 31
percent, compared to the S&P's 28-percent gain.
The fund costs 0.40 percent annually to own - a major
trade-off - which is more than 10 times what you'd pay for a
garden-variety S&P 500 fund and slightly more than similar
While it's a relatively new fund, and its market-beating
returns are not guaranteed, the strategy has some appeal. ALPS
has launched a sister fund - the International Sector Dividend
Dogs ETF - that came to market last month.
Another way of approaching the less-popular dividend payers
is through an equal-weighted index fund such as the Guggenheim
S&P Equal Weight ETF. By assigning equal percentages in
its index, the fund eschews the S&P 500 index approach of
heavily weighting the most highly-valued stocks.
Instead of big-name stocks like Exxon Mobil and
Apple, the Guggenheim fund includes relatively unknown
- and often lower priced - mid- and small-cap stocks. Holdings
include Micron Technology Inc Hudson City Bancorp Inc
and People's United Financial Inc.
Part of the Guggenheim fund's stock-selection formula favors
dividends. Its annual dividend growth rate is 6 percent,
compared to less than 1 percent for the industry. And as with
the ALPS fund, these cash-rich stocks have proven to have more
upside in a bull market.
The equal-weighting strategy has posted some durable
results. The Guggenheim fund has beaten the S&P 500 over the
past one-, three-, five- and 10-year periods. It's gained 36
percent over the past year, besting the S&P by more than seven
percentage points. It's up 24 percent year-to-date.
The only drawback to the Guggenheim fund is its higher
annual expenses: 0.40 percent, compared to the Schwab U.S.
Large-Cap ETF at 0.04 percent one of the cheapest index
funds on the market. Yet the higher fees on the Guggenheim fund
more than paid you back in higher performance over time.
The reason why dividends will continue to be important is
their contribution to total return. According to Standard &
Poor's, dividends contributed about one-third of the average
monthly total return of the S&P 500 companies from 1926 to 2012.
In times of heady growth, such as the 1990s, most of the
return came from capital appreciation. Dividends only accounted
for 14 percent of total return in that decade.
But if we're headed for a slow-growth period in which stocks
are only appreciating in the single-digit range, as many pundits
predict, then dividends will play an even larger role and
dividend darlings will only become more attractive.