When people hit retirement age, their investment goals often shift from accumulating assets to living off of the savings they’ve amassed. Dividend stocks are a great way to do that, but how do you pick the right stocks? An easy answer is not to pick stocks, but to use exchange-traded funds (ETFs) instead.
Here are three dividend-focused ETFs retirees should put at the top of their lists.
1. Schwab U.S. Dividend Equity ETF
When it comes to dividend ETFs, Schwab U.S. Dividend Equity ETF (NYSEMKT: SCHD) is probably one of the best choices out there — but not because it has the highest yield. Its real strength is in mixing yield and quality while still managing to offer an attractive trailing yield of 3.65%. Here’s how the fund does it.
First, the ETF screens for companies that have increased their dividends for at least a decade. Then, a composite score looking at cash flow to total debt (a proxy for financial strength), return on equity (to assess business strength), dividend yield, and the five-year dividend growth rate is created.
The scores are ranked from best to worst, and companies with the highest 100 scores are put into Schwab U.S. Dividend Equity ETF with a market cap weighting. (Real estate investment trusts [REITs] are not considered.) The end result is a generous yield backed by high-quality companies.
And you can get all of that for an expense ratio of just 0.06%.
2. SPDR Portfolio S&P 500 High Dividend ETF
By comparison, SPDR Portfolio S&P 500 High Dividend ETF (NYSEMKT: SPYD) is pretty basic. This ETF simply ranks the S&P 500 index by yield from highest to lowest and selects the 80 highest-yielding stocks for its portfolio. The stocks are equally weighted so that each stock has the same impact on performance.
That said, it is important to recognize that the S&P 500 is made up of a hand-selected list of large and economically important companies. So for the most part, the stocks that make it into SPDR Portfolio S&P 500 High Dividend ETF are vetted just a little bit.
That said, there are some important caveats here. For example, real estate, finance, and utilities are all sectors in the S&P 500 that tend to have higher dividend yields. Thus, these three make up a disproportionately large percentage of SPDR Portfolio S&P 500 High Dividend ETF’s portfolio.
That’s not terrible, but it is something to keep in mind from a diversification standpoint. The yield, however, is the real attraction here at 4.5%. The expense ratio is a modest 0.07%.
3. Vanguard High Dividend Yield ETF
Vanguard High Dividend Yield ETF (NYSEMKT: VYM) is also relatively simple to understand, but its portfolio is much larger. It starts its search for stocks by taking all dividend-paying stocks and removing REITs from contention. The remaining dividend payers are ranked from highest dividend yield to lowest. The top half make it into the ETF’s portfolio with a market cap weighting.
Vanguard High Dividend Yield ETF owns over 550 stocks, which inherently means it has greater diversification than SPDR Portfolio S&P 500 High Dividend ETF. The problem here is that the extra diversification comes at a cost and that shows up on the yield front, with a trailing dividend yield that’s just 3% or so.
Still, that’s more than twice as high as the roughly 1.3% yield on offer from the S&P 500. The expense ratio is also just 0.06%.
One of these three options will probably work for you
Of the three choices here, Schwab U.S. Dividend Equity ETF is probably the most elegant from a construction perspective. It provides exposure to good companies and still has an attractive yield. For those that prefer to focus only on yield, the choice is likely to be SPDR Portfolio S&P 500 High Dividend ETF, while investors who prefer a little more diversification will probably want to own Vanguard High Dividend Yield ETF.
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Reuben Gregg Brewer has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Vanguard Whitehall Funds-Vanguard High Dividend Yield ETF. The Motley Fool has a disclosure policy.
These 3 Dividend ETFs Are a Retiree’s Best Friend was originally published by The Motley Fool
