Yields have declined over the past several decades, driving some investors into high-yielding stocks to shore up their income. Fund providers have responded to this desire with rules-based strategies specifically focused on yield. But it's important to remember that high-yielding stocks can be riskier than the overall market. Therefore, the risk management aspect of yield-centric funds becomes an important part of their investment merit. Furthermore, investors should not lose sight of the basic principles that have led to improved long-term performance. Low fees and diversification should not be abandoned in the quest for yield.
Vanguard International High Dividend Yield Index ETF VYMI strikes a balance between dividend yield and risk. It offers a higher yield than the MSCI ACWI Ex USA Value Index and leans toward stable firms that are likely to continue making dividend payments. Our enhanced ratings framework places a greater emphasis on fees. This fund’s low expense ratio gives it a considerable and durable advantage, sufficient to warrant an upgrade of its Morningstar Analyst Rating to Gold from Bronze.
This fund tracks the FTSE All-World ex U.S. High Dividend Yield Index. It starts with large- and mid-cap stocks in the FTSE All-World ex U.S. Index, excluding REITs, and ranks them by their expected dividend yield over the next 12 months. The index selects those that represent the higher-yielding half of eligible dividend-paying stocks. Focusing on dividend yield gives the portfolio a value orientation and can be a source of risk. High yields can stem from stocks with poor prospects and depressed prices. Some of these companies may also pay out a high percentage of their earnings as dividends, which reduces the fraction that can be reinvested to grow their businesses.
This strategy tries to control its exposure to risky stocks. Sweeping half of the dividend-paying universe into its portfolio diversifies stock-specific risks, which limits the influence of distressed firms. It also weights constituents by their market capitalization--an approach that emphasizes large, stable firms that should have the capacity to continue making dividend payments. Many of these large dividend-payers are profitable business, and the fund’s return on invested capital has been higher than the MSCI ACWI Ex USA Value Index.
Leaning toward large, profitable firms has aided the fund’s performance. It beat the MSCI ACWI Ex-USA Value Index by 46 basis points annually from its launch in February 2016 through August 2020, while its volatility was comparable. Its low fee should provide a long-term advantage. Vanguard charges 0.27% for this portfolio, making it one of the cheapest funds in the foreign large-value Morningstar Category.
Process This fund holds a broad portfolio of dividend-paying stocks and uses a market-cap-weighted approach that emphasizes large stable firms while keeping turnover in check. It earns an Above Average Process Pillar rating.
The portfolio managers use full replication to track the FTSE All-World ex U.S. High Dividend Yield Index. This benchmark pulls its holdings from the FTSE All-World ex U.S. Index, which includes firms listed in developed and emerging markets. The strategy excludes REITs and stocks that are not expected to pay a regular dividend over the next 12 months, then ranks those that remain by their expected dividend yield over the next year. The portfolio adds stocks, starting with the highest-yielding names, and continuing until it captures 50% of the dividend-paying universe’s market capitalization. It then weights these stocks by their float-adjusted market cap, which pushes the portfolio to large stable firms that are more likely to continue making dividend payments. This approach also mitigates turnover and the associated trading costs. The index reconstitutes semiannually in March and September and applies buffer rules to help further reduce turnover. Stocks must remain in the highest-yielding 55% of the selection universe by market cap to stay in the index. New stocks are added once they break into the highest-yielding 45%.
This strategy has delivered on its high-yield objective. Historically, its trailing 12-month dividend yield has been about one-half to 1 percentage point higher than the MSCI ACWI Ex USA Value Index.
Weighting by market capitalization means that the largest dividend-payers take center stage in this portfolio, while smaller riskier firms take on a proportionally smaller role. Major multinationals, like Taiwan Semiconductor, Sanofi, and GlaxoSmithKline, rank among the fund’s largest names. Dividend-payers like these tend to have ample profits to support ongoing dividend payments. So, tilting toward them has caused the portfolio’s ROIC to be higher than the category index.
This portfolio is among the most diversified in the foreign large-value Morningstar Category, which can shield it from distressed companies with high yields. It holds more than 1,200 stocks and has only 15% of assets in its 10 largest positions. High-yield strategies can overweight REITs because these firms must pay out a high percentage of their earnings as dividends. This fund excludes them, and they make up a small fraction of the broader foreign market. Overall, its sector composition has looked a lot like that of the MSCI ACWI Ex USA Value Index.
People The portfolio managers on this fund are part of Vanguard's Equity Index Group and benefit from Vanguard's global footprint and strong portfolio management technology. This team earns an Above Average People Pillar rating.
The fund is comanaged by Michael Perre and Justin Hales. Perre is a principal in the Vanguard Equity Index Group. He has been with Vanguard since 1990 and has worked in various roles at Vanguard including accounting, securities lending, and trading. Hales is a portfolio manager and is responsible for daily trading and portfolio management. He has been with Vanguard since 2004.
Vanguard’s portfolio management team typically consists of two comanagers on each fund, and these managers rotate to different funds every few years to promote breadth and depth of expertise. They have access to Vanguard’s trading desks around the world that enable them to make the most efficient transactions in various global markets.
Vanguard’s compensation structure aligns managers’ interests with investors’. The managers are compensated with a bonus that factors in the gross, pretax performance of the fund relative to its objectives. This includes the manager’s record of tracking a benchmark index over the prior 12 months.
Performance Emphasizing large profitable dividend-payers helped this fund weather drawdowns better than the MSCI ACWI Ex USA Value Index and aided its performance. It beat the benchmark by 46 basis points annually from its launch in February 2016 through August 2020, earning most of that excess return between May 2018 and August 2020. The MSCI ACWI Ex USA Value Index didn't perform well over this period, losing 6.8 percentage points annually over those two-and-a-half years.
Outperforming during stress periods was also observable during the coronavirus sell-off in the first quarter of 2020, when it beat the index by 2.7 percentage points over those three months. While the fund has performed better than the benchmark during drawdowns, it tends to underperform during market rallies.
Index-tracking performance has been strong. The fund lagged its target index by 18 basis points annually over the three years through August 2020--slightly less than its 0.27% expense ratio. Securities-lending activity provided a mild boost to its performance.