When searching for income, it is easy to tempted by companies with the highest dividend payouts, or funds with best exposure to those specific stocks.
But investors are becoming increasingly attracted to exchange-traded funds (ETFs) in order to access certain markets and themes. As our special report week on income continues, we asked Morningstar experts to pick three ETFs for income. Morningstar's passive funds analyst Dimitar Boyadzhiev has done exactly that. A good balance between the three options would make one global diversified portfolio with quality dividend-paying companies.
Fidelity Global Quality Income (FGQI)
This ETF has a Morningstar Quantitative Rating of Silver, but was fully silver rated until recently. It has beaten both the Morningstar Global Equity Income category and its own benchmark: the MSCI World High Dividend Yield index. So far this year it has returned 21.89%, and it even managed to produce a positive return last year, when dividend payers had their worst 12 months in decades.
In terms of portfolio share, US equity makes up the lion’s share with a 68% weighting, above the Morningstar category (44%) and the index (57%). As fund administration group Link points out, US companies responded to the 2020 dividend crisis by reducing share buybacks rather than cutting payouts, in contrast to their European counterparts, which cancelled and cut billions in dividends. US banks were also allowed to continue making payments, whereas UK and EU regulators froze dividends for a number of months as fear gripped markets.
The largest holdings in the ETF are tech giants Microsoft (MSFT) and Apple (AAPL), as well as chip companies Nvidia (NVDA) and ASML (ASML). The fund holds more tech and fewer consumer defensive stocks than its peers.
Fidelity Emerging Markets Quality Income (FEMI)
The second ETF is another product from Fidelity, and according to Boyadzhiev, makes the list because of its parent company’s rigid quality and profitability screens. To complement the global strategy, Fidelity’s emerging markets ETF is a great alternative. Like its global cousin, this EM vehicle is outperforming the Morningstar Global Emerging Markets Equity category and its MSCI Emerging Market index. This year, it has returned 5.1% during a period where Asian markets have struggled.
It invests 48.12% in emerging Asia and 29.45% in developed Asia, similar to the rest of its category and index. Its biggest holdings are the moaty companies Tencent (00700) and Samsung (005930) at 4.87% and 4.70%, respectively. Boyadzhiev notes it also selects less indebted companies--a benefit during the Evergrande debt crisis.
He adds that, when combining Fidelity’s global and emerging market income ETFs at a 90:10 allocation, you get an exhaustive portfolio of the global market. The company has stringent quality screens and is both sector and country neutral with the global market.
Xtrackers MSCI World High Dividend Yield (XDWY)
For investors interested in higher yields, Boyadzhiev suggests the Silver-rated high dividend yield ETF from Xtrackers, as it provides more stable dividend growth over time than other high-yielders, despite a lower current income. Its screens are less strict than Fidelity’s, meaning more stocks and higher yields, and an alternative for investors looking to add more diversity.
The ETF holds an impressive 961 stocks, with Apple and Microsoft both topping the list. This is unsurprising as it allocates 23% to technology – significantly higher than the Morningstar Global Equity Income category (14%) and MSCI World High Dividend Yield index (7%). It also holds 42% in wide-moat stocks and 25% in narrow-moats.
The index it tracks has offered an income yield ranging between 2.4% and 4.4% per year over the past 20 years – and only stocks yielding above 2.2% are considered for inclusion.
The Xtrackers ETF has also outperformed the index by around 0.15% per year since inception. Boyadzhiev says this is because the fund is domiciled in Ireland and pays a lower rate of dividend withholding tax than the index. “With its current country exposure, the fund will continue to outperform its benchmark if its dividend yield remains above 2.2%," he says.
