Would You Like Some Growth to Go With Those Dividends?

"More money has been lost chasing yield than at the point of a gun."

Perhaps that quote, attributed to financial market historian Ray DeVoe, is a wee bit dramatic. But the central idea of not chasing income at the expense of total return is well worth bearing in mind, particularly as investors have to look far and wide to find stocks or bonds that yield even 3% or 4% right now. If you see a stock, bond, or fund with a yield much above that level, it's wise to stop and consider what kind of risks may lurk inside.

Morningstar's dividend guru Josh Peters strongly favors those companies that balance a robust current dividend with the ability to increase that dividend over time. He notes that dividends represented a bit less than half of the S&P 500's total return from 1911-2000 but also says, "If you don't have dividend growth, you don't have a prime driver of capital gains or your hedge against inflation."

With an eye toward identifying mutual funds that focus on dividend payers with long-term profitability and dividend-growth potential, I turned to our  Premium Fund Screener. Because most dividend-focused stock funds play in the large-cap blend or value arenas, I began by focusing on those two categories. Within that subset, I screened for funds with dividend yields of 2.00% or better--a perfectly reasonable hurdle given that the S&P 500 currently has a dividend yield in the neighborhood of 2.25%. Homing in on whether a fund prioritizes dividend growth is a bit trickier using the screening features in the tool, but I settled on funds with a large share of wide- or moderately wide-moat stocks as a proxy. Our equity analysts use the term moat to convey whether a company has sustainable competitive advantages relative to its competitors; generally speaking, we think firms with wide moats should have higher long-term profitability and growth potential than those that do not.

I then layered on a few basic quality and availability screens, seeking funds with below-average expense ratios and seasoned managers that are available to retail investors (those with less than $10,000 to invest).

The ensuing list featured a number of sturdy core offerings that have done a good job of balancing dividends with quality factors; Premium users can click  here to view the complete list or adjust the screen to suit their own criteria.

 American Fund American Mutual (AMRMX)
Although American Funds has faced a sea of outflows during the past few years, three of the firm's funds hit my screen when I ran it on Jan. 31, including this stalwart. Like most of its siblings, this multimanager fund takes a conservative tack, focusing on high-quality dividend-paying firms and aiming to buy them when they're trading cheaply. The fund's calling card is good downside protection: Although the fund certainly didn't skirt losses during the recent bear market, for example, management's valuation-consciousness and willingness to hold a slice of cash and bonds helped limit the pain.  

 Bridgeway Blue Chip 35 Index 
With just $338 million in assets, it's one of the smaller funds to make it through the screen, but this distinctive index offering merits more attention than it has gotten. Rather than weighting its constituent holdings by their market values, as conventional index funds do, this fund holds the very largest companies in near-equal measure. Its index also maintains even-keeled sector exposure, with no more than four stocks in any one sector. Despite the headwind of a market that has generally favored smaller stocks during the fund's 13-year history, this Bridgeway portfolio has managed to handily beat the S&P 500, which is dominated by giant firms but also includes a complement of mid-cap stocks. An ultra-low expense ratio of just 0.15% is a plus, as are management's efforts to keep trading costs down.

 Vanguard Dividend Growth (VDIGX)
For investors in search of a core dividend-growth offering, this fund is easy to recommend. Manager Don Kilbride doesn't seek firms whose dividends are high in absolute terms but rather those that he believes can increase their dividends at the rate of inflation plus 3.00%. He'll even hold firms that have cut their payouts as long as he remains confident that they're likely to increase their dividends in the future. Like American Mutual, this fund's emphasis on quality and valuation have held it in good stead in challenging markets. Moreover, its 0.34% expense ratio is ultralow for an actively managed offering.

Data as of Jan. 30.

See More Articles by Christine Benz

		30-Minute Money Solutions
	Need help picking up the pieces in this turbulent market? 30-Minute Money Solutions by Morningstar director of personal finance Christine Benz simplifies the daunting task of getting your financial house in order. Written for novice and experienced investors alike, this book offers manageable, step-by-step solutions for tackling money challenges and building a comprehensive financial plan in simple 30-minute increments. Learn more.
	Order Your Copy Today--$16.95