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Don't Rule Out Small-Cap ETFs In Search For Income

A pen and a pair of glasses on top of a graph
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I n the hunt for income, ETF investors with eyes fixed on the big guns may be missing out. The nation's small-cap stocks are both increasing and initiating dividend payments, according to a new S&P Dow Jones Indices study.

More than half the constituents of the S&P SmallCap 600 index -- 324, or 54% -- are now paying regular cash dividends. That's up 10.2% from the end of 2013.

Small-cap yields tend to be much lower than those of their large-cap counterparts. But "that number (10.2%) is significant," said senior index analyst Howard Silverblatt, who described the findings as "somewhat of a surprise." He pointed out 84% of the S&P 500 benchmark pay dividends, so "small caps are getting closer" to the large caps.

At least three ETFs track the S&P SmallCap 600 index: iSharesCore S&P Small-Cap ( IJR ), Vanguard S&P 600Small Cap ( VIOO ) and SPDR S&P 600Small Cap ( SLY ).

All are trading at all-time highs.

IJR, with $16.14 billion in assets, is the largest. It averaged an annual 15.7% stock market gain in the last five years. It yields 1.2%. By comparison, SPDR S&P 500 ( SPY ) gained an average annual 14.5% in the past five years and yields 1.82%.

Most investors in exchange traded funds view small-cap stocks as a long-term investment. For successful investing , they should take the study's findings into account in their reward-risk calculations, Silverblatt advised.

"While investors may not buy small caps only for yield, they may be getting paid more," he said. "I'm getting something while I'm waiting (for stock price gains)."

Sign Of Growing Health

The increase in small-cap dividend payers also is a sign of the growing health of U.S. equities, he said: "A dividend is a check in the mail and it's a cash flow. So you better have the money. If you don't keep paying those dividends, the stock is going to go south very quickly."

Unlike anAT&T ( T ),Chevron (CVX) orMicrosoft (MSFT), small caps aren't commonly perceived to be big dividend payers. "If you were (a small-cap stock) making money, you needed to put back money into the company to grow," Silverblatt said.

Not only are more small caps paying dividends, but their yields are trending higher. The yield on the S&P SmallCap 600 index increased 17.75% since the end of 2013, the report says.

"Most of that increase is due to more companies paying dividends," Silverblatt said. Small caps' recent underperformance helped their yield, which is derived by dividing the annual payout by price.

Big Dividend Payers

By comparison, the number of dividend payers in the S&P 500 has gone up less than 1% since the end of 2013. The index's yield increased 3.16%. For the S&P MidCap 400, the number of dividends payers is up 2.99% over the same period. The yield is up 7.59%.

According to the new study, 18 companies in the S&P SmallCap 600 have increased dividends for at least 20 consecutive years. Thirty-seven did so for at least 10.

Among these,Tennant (TNC) has raised dividends 43 consecutive years and yields 1.24%.Community Bank System (CBU) has done so for 23 years and yields 3.37%.Franklin Electric (FELE) has hiked 21 years and yields 0.99%. Tennant has nine straight quarters of positive earnings growth; Community Bank has six; Franklin at least 19.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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