Should income investors snap up this ETF?
Going under the hood of an ETF offering a high yield and global diversification.
Mentioned: SPDR® S&P Global Dividend ETF (WDIV)
I recently wrote an article about the poor prospects for dividends from major Australian companies. And I put together some suggestions for investors who want to find opportunities for dividend growth and staple high yields. One thing was missing from the list. A global dividend ETF.
Today I am going to see if one locally listed ETF checks the box for income investors – SPDR S&P Global Dividend Fund (ASX: WDIV). The ETF tracks the S&P Global Dividend Aristocrats Index. A promising start. Afterall this whole dividend rabbit hole started with an article I wrote on why there were no dividend aristocrats in Australia.
A dividend aristocrat is a company that has raised their dividend for the last 25 years. Those are the types of companies I want in my portfolio. My list of attractive opportunities for income investors is made up of shares or ETFs that I believe have a good chance of achieving 8% annual growth in income. Income growth comes from a combination of reinvested dividends as represented by current yield and growth in dividends.
The promising start on my review of WDIV quickly hit a roadblock. Despite using the term ‘dividend artistorcrat’ in the name of the ETF the criteria for inclusion in the portfolio is only 10 consective years of dividend growth.
I’m not going to throw a fit about this weakening of standards. Moses didn’t come down off the mountain with a definition of a dividend aristocrat. It is a made-up term. But it is also fairly well known among income investors. Including the term in the name of the index will likely confuse investors who don’t dig through the methodology. I’m not a fan of that.
The index tracked by the ETF consists of the 100 highest dividend yields from companies that have raised their dividend for 10 consecutive years with at least $1 billion in market cap. To create the index the following criteria is applied:
- The number of shares from each country is capped at 20% of the holdings and each sector at 35% of the holdings
- he weight of each index constituent is capped at 3% and each country and sector at 25%
Does the ETF deliver income?
The short answer is yes. The ETF currently yields just under 5% given the distributions paid over the last 12 months. The income growth story is a little less positive. The average distribution growth over the past 9 years was slightly more than 3% a year. On the surface this meets my criteria of 8% income growth potential given past results. Yet this growth is deceiving and is unlikely to occur in the future.
The ETF holds global shares and currency plays a factor. Dividends are received in foreign currencies and exchanged for Aussie dollars to distribute to holders of the ETF. The ETF has shares from 19 different countries and the Aussie dollar has performed differently against various currencies. But directionally the Aussie dollar has gotten weaker which adds to returns and the value of diviends when translated into local currency. It is likely growth would have been negative without the impact of currency.
This illustrates one of the problems with ETFs that use current dividend yield as a mean of selecting shares for the ETF. On an annual basis WDIV selects the highest yielding shares that meet the other criteria for inclusion. This means the dividend yield will always be high. But it means that the same shares aren’t held over the long-term unless they always meet the criteria of being the hghest yielding shares.
This is another reason I don’t like the inclusion of “dividend aristocrats” in the name of the index. I want to own a dividend aristocrat because these are companies that have the ability and desire to consistently grow dividends over the long-term. But if the shares are continually swapped out you don’t get the advantage of that long-term growth.
This is illustrated in the turnover of the shares of the portfolio which is currently 44%. That means that each year 44% of the shares are new. The shares with the highest growth potential in earnings and dividends are unlikely to stay the highest yielding shares. Investors will gravitate to those shares which means prices will rise and yields will fall.
The name is once again misleading. The ETF is using past growth in dividends as a proxy for sustainability of dividends. The theory being that if they have raised dividends each year for the last decade they won’t cut them after they get included in the ETF. Fair enough. But it doesn’t mean the ETF will steadily grow income. To grow the income generated by the ETF while maintaining the historic turnover means the new shares added would have to have higher yields than the shares removed. This would only happen if the market consistently falls to bring yields down.
I’ve written before about how my favourite measure of success in my portfolio is yield at cost. I don’t care what my portfolio is yielding at any given moment. I care about how much income I am getting based on the amount of money I originally invested. That takes dividend growth. I just don’t see how that can happen for this ETF which is just designed to always have a high yield by turning over the portfolio.
The ETF can serve a purpose for income investors who want high yields. And this is obviously valuable for an income investor. It is just unlikely income will grow over time. For investors that do choose to buy WDIV I would make sure that they also have other holdings with more potential for income growth. That is key for building and maintaining an income stream that can outpace inflation.
Other implications of the selection criteria
The ETFs’ focus on high yields means it has a significant value tilt. The following chart shows that traditional measures of value including price to earnings, price to book value, price to sales and price to cash flow are significantly lower than the MSCI World ex-Australia index. We don’t know if this will help or hinder returns in the future. But we do know it has hurt returns in the past as growth shares have significantly outperformed value since the GFC.
The ETF is more diverse from a country perspective than most global ETFs given that the US makes up around 70% of global market capitalisation. The 20% cap on allocation to single countries accounts for this although there can be swings in-between rebalancing as illustrated by the US and Canada slightly exceeded the cap. That being said the ETF does provide global diversification for Australian income investors who may be heavily reliant on the local market for income.
The ETF is overweight in Financial Services, Real Estate and Utilities. This isn’t surprising given the focus on the highest yielding shares and the value tilt.
Final thoughts
I am personally giving this ETF a pass but I do think it could fit into some investor’s portfolio. I’m already globally diversified from an income perspective but I do think some Australian income investors with a heavy concentration of local exposure might find this ETF appealing.
Our analysts rate the ETF as Neutral and summarise their view in the following way in the research report.
“SPDR S&P Global Dividend ETF WDIV is a reasonable choice for income-focused investors seeking exposure to a dividend-yielding global equities portfolio.”
That about sums it up. Meanwhile my search for a global income ETF listed in Australia continues.
If you found this exercise valuable and would like me to run through a similar exercise on another ETF please let me know at mark.lamonica1@morningstar.com