SDOG - SDOG: High Yield Coupled With Dividend Growth

2023-07-26 05:35:40 ET

Summary

• The ALPS Sector Dividend Dogs ETF offers a 4% dividend yield with consistent and steady dividend growth, providing investors with a growing income.
• SDOG selects the five highest-yielding stocks from each of the 10 sub-sectors within the S&P 500 index, with most picks being large caps.
• Despite underperforming the S&P 500 index and Schwab's SCHD, it could be a good addition to investors' portfolios if they are looking for value plays in case value outperforms.

ALPS Sector Dividend Dogs ETF ( SDOG ) is an income play that couples 4% dividend yield with double digit dividend growth, offering investors a way to not only gain income but actually grow it over time.

The fund takes an interesting approach that I haven't seen in many places before. Many people are familiar with the "Dogs of the Dow Theory" which says that you can beat Dow's returns by selecting 10 highest yielding Dow stocks and investing your money into them, rebalancing once per year. This is different from basic yield-hunting where you basically invest your money into highest yielding stocks in the market and end up buying a bunch of yield-traps that end up losing you money in the long term because in this particular strategy you select your stocks out of Dow index which represent some of the top 30 stocks in America if not the world. If a stock gets kicked out of the Dow index, it gets removed from the portfolio and remaining stocks get rebalanced within the portfolio.

SDOG takes a similar approach but uses S&P 500 index ( SPY ) instead of Dow to pick its stocks. The fund basically looks at 10 sub-sectors within the S&P 500 index and picks 5 highest yielding stock from each sector for a total of 50 stocks. The great majority of the fund's stock picks are large caps and each sector and each stock gets an equal weight. Notice below that each sector don't have an exact 10% weight but this is because the fund doesn't rebalance every day and performance differentials between different sectors can change the balance of the fund slightly from time to time. This isn't something to worry about though and one could consider this a rounding error if anything.

The same is also true for individual holdings of the fund. In theory each stock should have a weight of 2.0% but in reality weights of stocks range from 1.7% to 2.3% depending on how each stock performed lately but this should be evened out at the next rebalancing. Some people would consider this a good thing because higher performers are gaining more weight within the index but an opposite argument can also be made that more expensive stocks are getting a higher weight than cheaper stocks.

The fund has been around since 2012 and its share price is up 101% while its total return (including reinvestment of dividends) is up twice that. The fund's annual compounded return comes to about 10% which underperforms S&P 500 index slightly (by about 2% annually). This can also be because S&P 500's performance in recent years has been largely driven by mega cap tech stocks that either don't pay a dividend or have a very low yield.

Historically this fund has had a dividend yield between 3% and 4% for most of its existence with a few small exceptions such as March 2020. The current yield of almost 4% is at the higher end of its decade-long range, indicating the fund is generally trading at a cheaper dividend multiple than it has for the most of last decade.

One thing I find impressive about this fund is its history of hiking dividends. Typically high yielding stocks and funds tend to lack dividend growth but this fund seems to have an almost steady and consistent growth of dividends which is a big plus for most income oriented investors.

The fund currently has a beta of 96% which means it's only 4% less volatile than the S&P 500 index. I find this surprising since most stocks and funds with high yield tend to have lower volatility overall. Notice in the chart below how this fund's beta dropped to as low as 30s at one point last year. This is not because the fund's volatility suddenly dropped, but because S&P 500's volatility suddenly more than doubled. We also saw this fund's volatility rise significantly above the rate of the overall market back in 2020 when high dividend stocks such as energy and REITs underperformed significantly due to shutdowns and everyone was piling up on tech stocks. Still, it's noteworthy that this fund doesn't seem to protect against high volatility and investors can look elsewhere if they are concerned about volatility.

If you had bought $10k worth of this fund at its inception and reinvested your dividends, your annual dividend income would have grown to $1,100 which would be a 11% yield on your original investment. These type of funds work greatly in the long term if investors are patient and would like to see their income grow at a slow and steady rate.

I must mention that the fund still underperforms Schwab's highly popular US Dividend Equity Fund ( SCHD ) which has a slightly lower dividend yield but much better total returns. There have been some brief periods between 2015 and 2028 where SDOG outperformed slightly and the two funds were following very closely from 2013 to 2019 but SCHD's outperformance margin kept growing since 2019. Will SCHD's outperformance continue and gap continue to widen, or will SDOG catch up? It really depends on how well value stocks do in comparison to growth stocks because SCHD has a higher concentration of growth stocks while SDOG mostly has value stocks.

All in all, while SDOG is not the best dividend fund out there, it has its merits. The fund has a decent yield, low valuation and nice track record of dividend growth. Currently it's underperforming some of the more popular dividend funds such as SCHD but that could quickly change if there is a shift to value stocks. Meanwhile, it's annual total return of 10% isn't that bad either and investors can certainly do a lot worse than that.

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