DVY - SCHD: Where Income Meets Capital Appreciation

Summary

• SCHD is marketed as a dividend ETF, yet capital appreciation has been solid as well.
• The ETF offers extremely low expense ratio and solid dividend growth track record.
• The risk-adjusted returns of SCHD are far superior to similar instruments.

The Schwab U.S. Dividend Equity ETF (SCHD) is amongst the top 10 ETF in terms of inflows in 2022 as it added more than US$15B to its AUM. It is a passive ETF, designed to track the Dow Jones U.S. Dividend 100 Index. Although the name of the instrument may suggest that the primary return of the ETF could be expected in the forms of dividends, SCHD has been achieving impressive capital appreciation as well. In this article, I’ll examine the track record of the fund as well as its performance relative to similar instruments.

Brief introduction to SCHD

Since its inception in 2011, the Schwab U.S. Dividend Equity ETF has become one of the largest ETFs in terms of AUM. And there is a good reason for this. The large AUM in conjunction with the passive nature of the fund allow for a very low-cost structure with an expense ratio of just 0.06%. For reference, the notorious SPDR S&P 500 Trust ETF ( SPY ) has an expense ratio that is 50% higher at 0.09%.

As a passive instrument, SCHD’s only mandate is to track as closely as possible the Dow Jones U.S. Dividend 100 Index. According to the fund’s prospectus , the index is designed:

to measure the performance of high dividend yielding stocks issued by U.S. companies that have a record of consistently paying dividends, selected for fundamental strength relative to their peers, based on financial ratios. The 100-component index is a subset of the Dow Jones U.S. Broad Market Index, excluding real estate investment trusts (REITs), master limited partnerships, preferred stocks and convertibles. It is modified market capitalization weighted.

In order to be eligible for the index, companies must have paid dividends for at least 10 years in a row and be larger than US$500M in terms of float-adjusted capitalization. Also, a company’s weight in the index is capped at 4%, while sector weighting is capped at 25%. SCHD’s prospectus allows for a small discretion of up to 10% of net assets to be invested outside the index.

The criteria for inclusion in the Dow Jones U.S. Dividend 100 Index implies a value tilt, which is also evident from the relatively low P/E and P/CF that SCHD has. When it comes to performance, the fund has managed to outperform the broad market, represented by SPY as a proxy for S&P500.

Comparison to peers

The screener at Seeking Alpha indicates that SCHD is superior to its peers as it achieves higher ETF grades. When it comes to the dividend yield, while there are two peers with slightly higher yields, SCHD has a lot better dividend CAGR.

However, in order to get an even better comparison between SCHD and the peers from the screener – the iShares Select Dividend ETF ( DVY ), the iShares Core Dividend Growth ETF ( DGRO ), the Vanguard High Dividend Yield ETF ( VYM ), the iShares Core High Dividend ETF ( HDV ) and the SPDR S&P Dividend ETF ( SDY ), I’ll take a closer look at their total returns and risk-adjusted returns.

It turns out that not only SCHD has achieved better total return to date than its peers, but its result is superior in risk-adjusted terms as indicated by the far higher Sharpe ratio.

Takeaway

SCHD appears to be the passive investors’ dream – very low cost, diversified, solid track record of annual dividend growth and capital appreciation with superior risk characteristics than its peers. The only drawback I could think of is that the fund pays dividends quarterly, so if for some reason an investor wants monthly income stream, that may not be the ideal instrument. Also, SCHD is definitely not the instrument that will make you rich quick, as it’s invested in mature companies that likely won’t be able to achieve regular double digit revenue growth. Instead, SCHD could offer stability to a portfolio, due to its low volatility nature and a growing stream of regular income.

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