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ETF Specialist

Weighting by Yield Can Increase Risk

While the S&P's "aristocrats" have a long track record of increasing dividends, this fund places more emphasis on higher-yielding and potentially riskier stocks.

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 SPDR S&P Dividend ETF (SDY) offers a portfolio of companies with a long track record of increasing dividends. Companies that consistently increase dividends throughout market cycles tend to have sustainable competitive economic advantages or have experienced strong growth. However, weighting these stocks by yield gives the portfolio a tilt toward lower-quality mid-cap and value companies, which may have greater risk or slower growth in the future. Since its 2005 inception, the fund has provided roughly the same return and standard deviation as a low-cost S&P 500 index fund on a pretax basis but lagged on a post-tax basis. Because of its tilt toward mid-cap and value stocks, the fund is only suitable for risk-tolerant investors or as a satellite holding as part of a diversified portfolio.

In order to limit risk, this fund selects only companies that have increased their dividends for 20 consecutive years. Still, there is no guarantee that they will continue to increase dividends in the future. At the start of 2008, right before the financial crisis, the fund had 38% of its assets in the financial sector, more than twice that of the S&P 500. Several of its largest holdings, such as Comerica, cut their dividends in 2008 and saw their stock prices crater before this fund reconstituted its holdings. After the fund was reconstituted, many of the stocks that were eliminated subsequently rebounded in 2009. 

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Michael Rawson does not own shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.