# Why Invest in Dividend Funds?



## generalbrock (Dec 5, 2012)

I've really been wanting to add some dividend exposure to my portfolio lately, but I don't have enough cash to properly diversify by buying a wide range of individual dividend stocks.

Right now I'm invested in index etfs, with some of my money in a gic ladder. I was thinking I could buy some dividend etfs, but I can't figure out how they have any benefit to them.

Their yields seem similar to the index etf, except their performance seems far worse in most cases outside of Canada. 

So am I missing something here, or do dividend etfs just not capture what is alluring about individual dividend stocks?


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## james4beach (Nov 15, 2012)

> I've really been wanting to add some dividend exposure to my portfolio lately


But you said you're already invested in index ETFs, I presume including the TSX index. Problem solved: you already have dividend exposure. The TSX index pays out plenty of dividends, so you've already accomplished your goal!

You're generally right, dividend ETFs don't do anything spectacular. Even XIU and ZCN (regular TSX index) have good dividend yields so they're really not too different from a dividend ETF. Dividend ETFs are just more selective about choosing stocks with high dividends, so you'll see a higher dividend yield from a dividend ETF. And pay more fees for the privilege.

So what's the allure? Retirees want cashflow from their investments, and dividends automatically and regularly pay out cash. So they are good at providing a cashflow to the investor. However other than providing this cashflow, dividends don't provide any major benefit. They *do not* create higher returns than the stock index in the long term. Many people mistakenly think that dividends are free money. But it's simply value that _comes out_ of a company's stock. If the company didn't pay out the dividend, they would keep the money internally and reinvest it anyway.

I'd go as far as to say that unless you're retired, there is no reason to pursue "dividend exposure" beyond what's already in the index.


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## kork (Jun 9, 2012)

james4beach said:


> Many people mistakenly think that dividends are free money. But it's simply value that _comes out_ of a company's stock. If the company didn't pay out the dividend, they would keep the money internally and reinvest it anyway.


Isn't another advantage of Dividends that below a threshold, there's no taxation unlike RRSP income? So while it may not be "free money" for many people, especially those with lower income, it's "tax-free" money?


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## agent99 (Sep 11, 2013)

kork said:


> Isn't another advantage of Dividends that below a threshold, there's no taxation unlike RRSP income? So while it may not be "free money" for many people, especially those with lower income, it's "tax-free" money?


It's not tax free unless you have no other source of income and your income is below a certain threshold. But you do get a dividend tax credit resulting in a lower tax _rate _than interest income. 

Dividend income is grossed up before applying the Dividend Tax Credits. This increases net income and can push some retirees into OAS clawback range.


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## Eclectic12 (Oct 20, 2010)

agent99 said:


> It's not tax free unless you have no other source of income and your income is below a certain threshold. But you do get a dividend tax credit resulting in a lower tax _rate _than interest income.


A good summary ... though to nitpick a bit, at lower income levels the DTC means paying less taxes than a capital gain.

For example, in Ontario using the 2015 tax table, all the way up to income at $84,902 - after DTC eligible dividends < capital gains < non-eligible dividends < interest/income.
http://www.taxtips.ca/taxrates/on.htm

Above that mark, capital gains and eligible dividends switch places so that:
capital gain < eligible dividends < non-eligible dividends < interest/income




agent99 said:


> Dividend income is grossed up before applying the Dividend Tax Credits. This increases net income and can push some retirees into OAS clawback range.


With $1 of dividends paid being reported as something like $1.38 for the net income, it certainly moves one closes to the clawback at a faster rate than it appears when one is not aware of it.

Another point that is missed by some is that due to when CL are deducted, a CG will also push one closer to the clawback than one expects.
http://www.taxtips.ca/seniors/oas-clawback.htm


Cheers


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## mf4361 (Apr 11, 2015)

Dividend stocks generally have lower volatility than broad market. They go up less and go down less than market average. that's another reason people buy dividend stocks. But it also means it tends to overweight on a few sectors like banks.


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## OnlyMyOpinion (Sep 1, 2013)

agent99 said:


> Dividend income is grossed up before applying the Dividend Tax Credits. This increases net income and can push some retirees into OAS clawback range.


...
And isn't that a good problem to have! It means that rather than relying on the vagrancies of a government program/handout in your retirement years, you have the resources to look after yourself.


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## My Own Advisor (Sep 24, 2012)

OnlyMyOpinion said:


> ...
> And isn't that a good problem to have! It means that rather than relying on the vagrancies of a government program/handout in your retirement years, you have the resources to look after yourself.


I will be more than happy to have a tax problem (i.e., I will need to find ways to avoid the OAS clawback) in retirement....thanks very much


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## nathan79 (Feb 21, 2011)

kork said:


> Isn't another advantage of Dividends that below a threshold, there's no taxation unlike RRSP income? So while it may not be "free money" for many people, especially those with lower income, it's "tax-free" money?


True. Dividends actually _reduced_ my taxes this year... only by a few dollars, but it could be a substantial amount if you have enough dividends. Only in certain provinces and only if you earned roughly under 40K.


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## CPA Candidate (Dec 15, 2013)

Dividends are a realized return. They can accumulated in your account and provide a ballast of cash for your portfolio. Capital gains can evaporate in an instant as multiples suddenly contract. Dividends often keep investors from doing dumb things like trying to trade the market or change course too often. Dividends result in greater investor discipline to not chase whatever is performing this month.

Cash a company earns and keeps isn't necessarily went spent, often it is wasted. When companies have to pay a regular dividend it imposes discipline on their capital allocation decisions. If you had to raise debt or equity to fund a new acquisition, you would probably consider it more carefully rather than if the cash was sitting right there. Certainly most people can relate to this. It's easier to spend money you have than money you would need to go and borrow to spend.

Most stocks aren't valued based on the book value of equity, but rather what they produce in terms of earnings and cashflow. Hoarding cash rarely means higher stock prices. I hate to see rising book value without earnings growth, the ROE goes down.

The only time I like to see a company not pay a dividend is if they are high growth and can provide a high ROE when growing book value. Very few companies can do this for long.


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## livewell (Dec 1, 2013)

Yes I am in that sweet spot, my taxes are ~$400 lower due to ~$5k dividend income - it seems a bit bizarre.

Back to the OP original question, I tend to agree with J4B unless you are in retirement (Or approaching retirement and restructuring your portfolio for retirement) I would not pursue dividend income. If you reach a point that you want to pursue dividend income then I agree that in Canada using ETF's is not very effective. I took a look at CDZ (Canadian Dividend Aristocrat) and the top 10 holdings contain some companies I would touch with a barge pole e.g. Wi-Lan (WIN) a patent troll FFS. And only 1 or 2 large cap stocks in the top 10. With a couple of banks, an insurance company, a telecom, a pipeline or 2, a rail stock, and a consumer and industrial stock, you can get a less volatile and better performance. Only in the consumer/industrial you may need to look at mid-cap rather than large cap in Canada.
One additional point in non-registered accounts ETF's can be messy, and have unexpected capital gains that you can be on the hook for even if you have not actually benefited from.


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## lost in space (Aug 31, 2015)

There's been plenty written on the power of reinvested dividends but to me the big advantage is that you worry much less about how the stocks doing. For example my holdings in XIE (dividend ETF) are down some 17% but I'm not really worried because the yield has increased and unlike individual stocks I'm not worried that the ETF will go bankrupt or cut it's dividend

lost in space formally financial planner dude


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## livewell (Dec 1, 2013)

lost in space said:


> There's been plenty written on the power of reinvested dividends but to me the big advantage is that you worry much less about how the stocks doing. For example my holdings in XIE (dividend ETF) are down some 17% but I'm not really worried because the yield has increased and unlike individual stocks I'm not worried that the ETF will go bankrupt or cut it's dividend
> 
> lost in space formally financial planner dude


 The OP question is about the benefit of dividend ETF's vs dividend stocks, not just about benefit of dividend investing. XIE is new to me, it certainly looks better than CDZ in what it contains. However looking at the holdings I see that Rogers, Bell, Shaw each have over 5% weighting, that is over 15% weighting in telecom alone, and top 5 holdings are all over 5% weighting. This is not sufficiently diversified for my comfort level and goes against everything you expect an ETF to be doing for you with diversification.


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## My Own Advisor (Sep 24, 2012)

I'm not convinced you need to 'wait for retirement' to pursue dividend investing...

The main reason, cash flow now in pre-retirement (or at least dividends DRIPping away, compounding away for me at least) is just as nice now as it _will be_ in retirement. 

You need cash flow in retirement...not some hope of capital gains....

The ZDVs, XEIs, CDZs are largely all the same for Canada....top 6-banks, top-3 lifecos, top-4 telcos, some pipelines, energy companies, some utility companies, and of course, like the game of monopoly - railroads.

Personally I'd rather own these companies directly vs. pay a fee to get the portfolio reshuffled on me. The people that run a dividend ETF can't predict the future any better than any CMFers in here.

Are those dividend ETFs buying more O&G stocks now, or trying to sell them? Money managers their bread gets buttered by trying to beat the index. They are forced into active management to deliver returns for unit holders. If you own stocks directly, you don't have to give into this madness.

There is something to be said for individual stock ownership:
http://www.myownadvisor.ca/in-defense-of-active-investing/

Just my $0.02!


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## james4beach (Nov 15, 2012)

Please everyone, just remember that it's total return that matters. The big picture goal is to achieve the highest total return over a long period of time.


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## livewell (Dec 1, 2013)

My Own Advisor said:


> The ZDVs, XEIs, CDZs are largely all the same for Canada....top 6-banks, top-3 lifecos, top-4 telcos, some pipelines, energy companies, some utility companies, and of course, like the game of monopoly - railroads.


Somewhat surprisingly they are not - and from what I can see none of them have an expected breakdown like you list:

Top ten holdings 
ZDV:-

Securities % of Assets
Northland Power Inc 3.03%
TELUS Corp. 2.98%
Veresen Inc. 2.82%
Thomson Reuters Corp	2.76%
IGM Financial Inc. 2.71%
Potash Corp of Saskatchwn	2.69%
Cdn Imperial Bk of Commrc2.52%
Capital Power Corp 2.45%
Emera Inc. 2.36%
Inter Pipeline Ltd. 2.35%

XEI:

Name Ticker Weight (%)	
ROGERS COMMUNICATIONS NON-VOTING I	RCI.B 5.93
CANADIAN IMPERIAL BANK OF COMMERCE	CM 5.60 
BCE INC	BCE 5.46	
SHAW COMMUNICATIONS INC CLASS B	SJR.B 5.38	
BANK OF MONTREAL	BMO 5.23	
POTASH CORPORATION OF SASKATCHEWA POT 5.02
BANK OF NOVA SCOTIA BNS 4.94	
CENOVUS ENERGY INC CVE 4.46	
PEMBINA PIPELINE CORP.  PPL 3.49	
NATIONAL BANK OF CANADA NA 3.18	

CDZ:

Name Ticker	Weight (%)	
BIRD CONSTRUCTION INC BDT	4.48	
EXCHANGE INCOME CORP. EIF	4.27	
WI-LAN INC. WIN	2.83	
NORTHERN PROPERTY REAL ESTATE INVE	NPR.UN	2.67	
MULLEN GROUP LTD. MTL	2.50	
GENWORTH MI CANADA INC. MIC	2.45	
HANDR REAL ESTATE INVESTMENT TRUST	HR.UN	2.41	
ENSIGN ENERGY SERVICES INC ESI	2.30	
CORUS ENTERTAINMENT INC CLASS B CJR.B	2.27	
BCE INC BCE	2.24


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## My Own Advisor (Sep 24, 2012)

Fair, livewell, thanks for that, if you're only looking at the top-10. 

If you look at ZDV, a bit further down the list, all big 6 banks are there, 3 lifecos, 4 telcos...we all know the names.
XEI is different, 4 banks and telcos in the top-10. No RY but it holds TA. I'd much rather own RY than TA, among others.
CDZ is true, different, since it uses different criteria but if you look further down the list you'll find your banks, lifecos, telcos, and pipelines.

I guess the point I was making I'd personally own these companies directly vs. pay a fee to get the portfolio reshuffled on me. 

Other people feel differently and that is fine. I'm ok with that. Not two investors, nor their goals, are created equal. 

And yes...total return matters...but it's hard to predict the future where that total return will come from.


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## Eder (Feb 16, 2011)

I would invest in dividend funds to prevent knee jerk reactions during market corrections as we have been exposed to lately. I don't own any funds but do own only TSX stocks that are considered dividend payers & meet certain criteria I look for (growth,payout ratio,international exposure,beta etc).

It helps me remain in the House of Pleasure and not do something stupid in my retirement. I will get my income monthly, increasing faster than inflation no matter what.... unless of course the brain eating zombies win.


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## generalbrock (Dec 5, 2012)

Its really difficult deciding on an investing plan, and most of my interest in dividends comes from trying to balance out my approach.

From what I read dividend investing results in slightly higher returns than indexing and can be more stable during bear markets.

Of course I've also read studies saying index funds will out perform dividends long term. So if I do both, I'm hoping to avoid any major problems.

But it seems like dividend funds don't work anywhere as close to as well as straight dividend stocks. And some of the posters mirror my thoughts that a lot of the top positions in the funds are terrible companies.

Does anyone know if the dividend yield increases over time in index funds? That's one piece of information I haven't been able to find. The yield seems to fluctuate as companies churn in and out the fund from what I can see.


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## AltaRed (Jun 8, 2009)

generalbrock said:


> Does anyone know if the dividend yield increases over time in index funds? That's one piece of information I haven't been able to find. The yield seems to fluctuate as companies churn in and out the fund from what I can see.


First thing to remember is each ETF follows the specific index the prospectus says it does and the index itself, usually a third party index, has a set of rules (algorithms) for the actual stocks that make it into the index. It is not a case of terrible vs non-terrible companies. It is the combination of factors that determines what stocks go in the index (essentially a stock screener). Before one invests in a particular dividend ETF, it pays to understand the principles of the index algorithms to know what kind of stocks will result being in the index.

The dividend yield at any given time of the ETF is a 'result', not a driver, of what is in the index/ETF. In other words, it does not matter what the dividend yield does IF you are a believer in the algorithms that make up the index! It will take care of itself.

For XDV that I follow


> The iShares Canadian Select Dividend Index ETF seeks to provide long-term capital growth by
> replicating,
> to the extent possible, the performance of the Dow Jones Canada Select Dividend
> IndexSM,
> ...


So there are 30 stocks and the key drivers are dividend growth, yield and payout ratio. Pretty good rules in my opinion for a dividend stock.


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## Cal (Jun 17, 2009)

james4beach said:


> But you said you're already invested in index ETFs, I presume including the TSX index. Problem solved: you already have dividend exposure. The TSX index pays out plenty of dividends, so you've already accomplished your goal!QUOTE]
> 
> Exactly what I was thinking, especially for the TSX.


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## treva84 (Dec 9, 2014)

generalbrock said:


> I've really been wanting to add some dividend exposure to my portfolio lately, but I don't have enough cash to properly diversify by buying a wide range of individual dividend stocks.
> 
> Right now I'm invested in index etfs, with some of my money in a gic ladder. I was thinking I could buy some dividend etfs, but I can't figure out how they have any benefit to them.
> 
> ...


As others have mentioned, the yield of the TSX (i.e XIU) is around 3% which is quite good for an index fund - thus, at least for Canada, I wouldn't think you would need to buy a dividend ETF.

However, as you are an indexer and obviously know the importance of diversification; a dividend ETF could make sense for the US market as the yield on an S&P 500 Index ETF (i.e. XUS) is only about 1.5%. The trade off is i) more complexity (need to be more mindful of geographical weightings) and ii) more rebalancing costs. 

Nonetheless if you wanted to diversify with divvy stocks, an American Divvy ETF (which you can buy in CAD, hedged or non hedged) wouldn't be a bad idea. For example, XHU (iShares US High Dividend Equity Index ETF) has a yield of 3.5% with a MER of 0.30%.

Of note, I don't hold any iShares ETFs; I just quoted them as they tend to be most popular in Canada. I'm a Vanguard man myself


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## My Own Advisor (Sep 24, 2012)

If you own XIU, it is for the most part a dividend ETF. A great low-cost one at that.


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## gibor365 (Apr 1, 2011)

> Nonetheless if you wanted to diversify with divvy stocks, an American Divvy ETF (which you can buy in CAD, hedged or non hedged) wouldn't be a bad idea. For example, XHU (iShares US High Dividend Equity Index ETF) has a yield of 3.5% with a MER of 0.30%.


 XHU is not so good idea  did you see volume?! It's practically 0...
If you want US dividend ETF , take a look at VIG or SDY or batter have it;s best holdings as individual stocks


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