What Is a Dividend ETF?
A dividend ETF is an exchange-traded fund (ETF) designed to invest in a basket of dividend-paying stocks. The fund manager will choose a portfolio of stocks, based on a dividend index, that pays out dividends to investors, thereby working as an income-investing strategy for individuals that purchase the ETF.
Key Takeaways
- A dividend ETF is an exchange-traded fund (ETF) designed to invest in a basket of dividend-paying stocks.
- Investing in dividend ETFs is an income-investing strategy as the stocks pay dividends, also known as income.
- Dividend ETFs are passively managed, meaning the fund manager follows an index and does not have to make trading decisions often.
- Dividend ETFs are good investment options for investors that are risk-averse and income-seeking.
Understanding a Dividend ETF
Dividend ETFs are established in order to gain high yields when investing in high-dividend-paying common stocks, preferred stocks, or real estate investment trusts (REITs). Dividend ETFs may contain only U.S. domestic stocks, or they may be global dividend ETFs, which have an international focus.
Most indexes used to create the dividend ETFs hold stocks with above-market dividend yields and a higher than average level of liquidity.These will vary, however, based on the ETFs that a fund manager picks and their specific investment approach.
Dividend ETFs are passively managed, meaning they track a specific index, but the index is usually screened quantitatively to include companies with a strong history of dividend increases as well as the bigger blue-chip firms that are generally considered to carry less risk.
A dividend ETF’s expense ratio should be lower or equal to the least expensive, no-load mutual fund. No-load mutual funds, by definition, can be bought or redeemed after a certain length of time without a commission or sales charge.Dividend ETFs are generally recommended for the generally risk-averse stock investor who is income-seeking.
Dividend ETFs vs. Other ETFs
Generally, ETFs offerinvestors the option to diversifywithin a given index; meaning that they will gain broad exposure to many stocks within a given index. Investors can alsosell short,buy on margin,and purchase as little as one share, as ETFs have no minimum deposit requirements. Furthermore, expense ratios are lower than those of the average mutual fund for most ETFs.
The main reason investors purchase ETFs is that they are easy to buy and sell like stocks, they offer diversification, broad market exposure, and they have low costs due to their low expense ratios. Investing in dividend ETFsoffers one strategy, butthere are a number of other types of ETFsinvestors might research and add totheir overall investment portfolio.
AnIPO ETF, for example, can be appealing for investors whowant to gain exposure toIPOs during their initial introduction to the market. They can diversifytheir investment across a pool of IPOs from a variety ofsectors and industries. The advantages in IPO ETF investmentsare rooted in thebenefits from potential upside growth in the share price. Yet,initial IPO success doesn't spell long-term stability, asthe value of holdings can decrease in value later.
IndexETFstrackabenchmark indexlike the as closely as possible. Investors can buy and sell index ETFsthroughout the day on a major exchange, and investors gain exposure to a variety ofsecurities in onetransaction. Depending on which index the ETF tracks, index ETFscan includeboth U.S. and foreign markets, specific sectors, or various asset classes, such as small-caps or blue-chips.
Finally, anETFof ETFstracks other ETFs instead of an underlying stock or index. An ETFof ETFsallows for more diversification than other ETFs. These are actively managed like managed funds, versus passively managed like other ETFs, so theycan be designed to factor invariables such as risk levels or time horizons.This approach can provide investors with low fees, immediate diversification, and broad exposure to strategies across different asset classes.
Investing in Dividend ETFs
Investors can access ETFs through their brokers or simply purchase an ETF like a stock on their own through online brokerage services. Some of the most popular ETFs are as follows:
- Vanguard Dividend Appreciation ETF (VIG)
- Fidelity International High Dividend ETF (FIDI)
- iShare Core High Dividend ETF (HDV)
- SPDR S&P Global Dividend ETF (WDIV)
- Schwab U.S. Equity Dividend ETF (SCHD)
FAQs
A dividend ETF is an exchange-traded fund (ETF) designed to invest in a basket of dividend-paying stocks. The fund manager will choose a portfolio of stocks, based on a dividend index, that pays out dividends to investors, thereby working as an income-investing strategy for individuals that purchase the ETF.
How does a dividend ETF work? ›
An ETF owns and manages a portfolio of assets. If those assets pay dividends or interest, the ETF distributes those payments to the ETF shareholders. Those distributions can take the form of reinvestments or cash. ETFs that position themselves as dividend funds generally opt for cash distributions over reinvestments.
What is the simple explanation of ETF? ›
ETFs or "exchange-traded funds" are exactly as the name implies: funds that trade on exchanges, generally tracking a specific index. When you invest in an ETF, you get a bundle of assets you can buy and sell during market hours—potentially lowering your risk and exposure, while helping to diversify your portfolio.
What is the dividend rule for ETFs? ›
These dividends are paid on stock held by the ETF, which must own them for more than 60 days during the 121-day period that begins 60 days before the ex-dividend date.
What is the downside of dividend ETF? ›
Cons. No guarantee of future dividends. Stock price declines may offset yield. Dividends are taxed in the year they are distributed to shareholders.
What is the best dividend ETF to buy? ›
ETFs like Schwab U.S. Dividend Equity ETF and Vanguard Real Estate ETF make it even easier by giving investors instant access to these income producers. Because of that, they're great ETFs to buy for those desiring to sit back and watch the income steadily flow into their accounts.
How many dividend ETFs should I own? ›
Experts agree that for most personal investors, a portfolio comprising 5 to 10 ETFs is perfect in terms of diversification.
What is the difference between a dividend ETF and a stock? ›
Dividend ETFs and stocks have several differences, including: Diversification: Dividend ETFs invest in a portfolio of stocks, while individual stocks represent ownership in a single company. This means that dividend ETFs provide investors with greater diversification, which can help to reduce risk.
How do ETFs work for dummies? ›
A cross between an index fund and a stock, they're transparent, easy to trade, and tax-efficient. They're also enticing because they consist of a bundle of assets (such as an index, sector, or commodity), so diversifying your portfolio is easy. You might have even seen them offered in your 401(k) or 529 college plan.
How do ETFs work examples? ›
An ETF provider takes into account the universe of assets, such as stocks, bonds, commodities, or currencies, and builds a basket of them, each with its own ticker. Investors can buy a share in that basket in the same way they would buy stock in a firm.
Though ETFs allow investors to gain as stock prices rise and fall, they also benefit from companies that pay dividends. Dividends are a portion of earnings allocated or paid by companies to investors for holding their stock.
How does ETF dividend work? ›
How Do Dividends Work in an ETF? ETF issuers collect any dividends paid by the companies whose stocks are held in the fund, and they then pay those dividends to their shareholders. They may pay the money directly to the shareholders, or reinvest it in the fund.
Are ETF dividends automatically reinvested? ›
Automatic dividend reinvestment plans (DRIPs) directly from the fund sponsor aren't yet available on all ETFs although most brokerages will allow you to set up a DRIP for any ETF that pays dividends. This can be a smart idea because there's often a longer settlement time required by ETFs.
How are dividends paid? ›
Cash dividends are paid out either as a check sent to the investor or as a credit to a brokerage account, which can then be reinvested. Stock dividends are paid in fractional shares. If a company issues a stock dividend of 5%, shareholders will receive 0.05 shares in dividends for every share they already own.
Do ETFs pay dividends monthly? ›
Thankfully, there are some stock ETFs that do pay dividends on a monthly basis. They're definitely in the minority, but there are enough where you can actually build a pretty diversified portfolio using just monthly pay stock ETFs. Whether stock ETFs pay monthly dividends usually comes down to the issuer.
Can you live off ETF dividends? ›
Can you live off ETF dividends? While it is possible to live off ETF dividends, you'll need to do some careful planning to make it happen. You'll need to balance how much income your investments bring in, and how much you spend.
Do you pay taxes on ETF dividends? ›
Dividends and interest payments from ETFs are taxed similarly to income from the underlying stocks or bonds inside them. For U.S. taxpayers, this income needs to be reported on form 1099-DIV. 2 If you earn a profit by selling an ETF, they are taxed like the underlying stocks or bonds as well.
