Dividend growth investing has grown in popularity over the past few years. The premise is tied to the fact that companies that are able to grow their revenues and profits over time will also raise their dividends. Investors will see a growing snowball of income over time by regularly investing in these companies.
Is it possible to largely see the same process play out by purchasing ETFs or mutual funds that pay out dividends? This article will argue that, yes, it is possible to see passive income grow while also seeing total portfolio returns do quite well at the same time.
A couple of caveats should be noted initially. First, there are a few people who are able to pick stocks and beat the market indexes over time. Warren Buffett is a notable example who comes to mind. Second, this investigation will only go back 10 years. Therefore, the market as a whole has done quite well as a whole over this time period.
Vanguards High Dividend Yield ETF
A leading example of how an investor could get a reasonable level of dividend income is Vanguard High Dividend Yield ETF (NYSEARCA:VYM). This fund has been around since 2006, just a couple of years before the market meltdown of the Great Recession.
Today, VYM is a highly diversified fund that included shares of 402 different companies as of October 31, 2018. Included in the fund's top 10 investments are a number of companies that are frequent fixtures in many of the top DGI bloggers' portfolios.
The top 10 companies held by the fund, with the exception of a couple of telecom giants, have yields that are in the 2.5 to 4 percent range as of November 21, 2018. This might not seem like a terribly high yield, but focusing on quality dividend payers, rather than just companies that are currently paying out a huge yield, can help the fund maintain its dividend payout and grow it over time.
As of October 31, 2018, VYM had a 30-day SEC yield of 3.35 percent. One of the more popular DGI bloggers points out near the end of this article that his average yield is 3.5 percent. This means that the more passive fund has a yield that is only 15 basis points less than a much more actively based fund.
Capital Gains and Dividend Growth
When looking at the past ten years of capital gains and dividend growth, VYM does not disappoint.
VYM's 10-year return averaged 10.97 percent on an annual basis. This is more than the 10 percent that is generally cited by personal finance experts. A $10,000 investment ten years ago, which happened to be during the decline associated with the Great Recession, would now be worth $33,142.
This compares with the 12.08 percent annual return from Vanguard Total Stock Market Index Fund (VTI). The value of a $10,000 investment ten years ago would now be worth $35,180 (as of 10/31/2018).
Therefore, a fund that focused primarily on relatively high-yielding dividend-paying stocks provided nearly as much growth as a fund that included all of the fast-growing FAANG stocks (as well as every other company), some of which pay no dividends whatsoever. All of this occurred while providing additional income for those looking for cash to handle monthly or quarterly expenses.
VYM is not primarily focused upon dividend growth. However, it has shown healthy growth in dividend in real terms over the past ten years. 10 years ago, in September 2008, the fund paid out $0.371 per share as a dividend. In the third quarter of 2018, the High Dividend Yield Fund paid out $0.672 per share.
This is not quite as much dividend growth as VTI's dividend shows. Over the same period, the dividend for VTI holders grew from $0.296 to $0.714 per share. The annual growth rate has not been as high for VYM, but it is important to remember that the yield of 3.35 percent is nearly double that of VTI, which stands at 1.93 percent (30-day average as of 10/31/2018).
To show this in real terms, for every $1,000 a person had invested in VTI, they would get $19.30 in dividend income. This compares with $33.50 in annual income per $1,000 invested in VYM. This is only slightly below the 4-percent level that is considered safe for retirement withdrawals.
Conclusions
A perusal of VYM shows that investors who are interested in dividend income would have achieved returns that were comparable to a similar investment in the more growth-oriented Vanguard Total Stock Market Index Fund.
All of this could have occurred while achieving a yield that is comparable to some of the leading dividend growth investors in the blogosphere, not to mention some healthy growth in dividend in real terms. Of course, it is difficult to predict the future, but VYM should remain a quality option that's filled with high-quality companies that pay reasonably good dividends.
This article was written by
Christopher Price
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Chris is a history instructor at a community college. He is building a dividend-paying stock portfolio that is hopefully low on the risk scale to build up income for his golden years.
Analyst’s Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
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