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What to look for when seeking a yield ETF

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Just because you own a portfolio with a yield ETF doesn't mean you can sit back and relax. ETF investors, just like stock investors, need to be diligent and watch for changing market conditions that will affect the ETF's holdings.

[caption align="alignright" caption="Stock brokers working at the New York Stock Exchange, 1963"] Public domain image courtesy NYSE [/caption]

I continue to stress that you need to know and understand how each ETF you own is constructed, weighted, and what exposure each individual stock brings the ETF.

The ETF market has been rapidly growing, to the point of 1,476 ETF funds encompassing $1.2 trillion in assets which makes up roughly one third of the US equity market. It's a popular vehicle for retail traders.

With the explosion in ETFs' popularity it's no surprise the hunt for yield has spilled over to the ETF world as fast as it has; there's 49 specific dividend-focused ETFs now on the market, up from 20 yield ETF funds in early 2011.

In fact, one of the key reasons retail investors favor dividend focused ETFs is that it allows them to own several dividend paying stocks in one asset for a lot less capital outlay and commission.

This simple fact is both blessing and curse. Yes yield ETF investors reap the benefit of spreading capital across several stocks that pay dividends. However, Net Asset Value (NAV) can be greatly influenced by one or two stocks within an ETF, effectively wiping out potential dividend gains. This is why it's so important to truly understand what you own when buying any ETF.

This holds especially true for emerging market investors looking at focused ETFs. Many investors can hold emerging market ETFs, including a yield ETF, that may contain equities and other assets based in more than one country that can have a direct impact on the ETF -- without realizing before it's too late.

Bottom line: Dividend-focused ETFs may seem an easy way to spread risk across several equities and reap the benefit of multiple dividends from one yield ETF. It's definitely alluring, but looks can be deceiving and you need to be careful of the added exposure that comes with ETFs. In many cases ETFs add to your homework work-load as you need to be aware of several underlying assets to make an informed decision surrounding the ETF.

You also need to factor in the ETF's fees versus owning the shares outright. Many brokers offer a Dividend Reinvestment Plan, commonly known as DRIP, in which the dividend is deployed into buying additional shares of the security. The two key factors of this program: it allows for a fractional share purchase (allowing 100% reinvestment) and any broker worth their salt will NOT charge a commission for the service.

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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