Dividend stocks are investments that pay a portion of profits back to shareholders, usually on a quarterly basis. A dividend exchange-traded fund (ETF) is a collection of dividend-paying stocks, all bundled together into a single investment.
By investing in a single dividend ETF, you can gain exposure to hundreds of stocks at once. The more shares you own, the more you’ll receive in dividend payments — potentially building a stream of passive income that pays thousands of dollars per year.
Not all dividend ETFs are created equal, but these three Vanguard funds can limit risk with ample diversification while paying out higher dividends.
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The Vanguard Dividend Appreciation ETF(NYSEMKT: VIG) contains 337 stocks from companies with a history of increasing their dividend payments year after year. It pays quarterly dividends, and its most recent payment in early October was around $0.86 per share.
That may not sound like much, but once you’ve accumulated hundreds or even thousands of shares, it can add up. You also have the option to reinvest your dividend payments, making it easier to buy more shares. This can then have a snowball effect on earnings — the more you invest, the more shares you’ll own, the more you can reinvest in dividends, and so on.
In addition to dividend payments, you’ll also earn standard investment returns like you would with any other stock or ETF. This fund has earned an average rate of return of 12.83% per year over the last 10 years, which is slightly higher than the market’s historic average of 10% per year.
The Vanguard High Dividend Yield ETF(NYSEMKT: VYM) is similar in many ways to the Dividend Appreciation ETF. It’s focused on stocks from companies that have high dividend yields, and it most recently paid a quarterly dividend of around $0.84 per share.
The key differences between the two funds come down to their size and performance. The High Dividend Yield ETF contains significantly more stocks, with 566 holdings. Greater diversification can help limit the impact of volatility, giving this fund an edge for more risk-averse investors.
However, ETFs with more holdings can sometimes also earn lower returns, with lower-performing stocks dragging down the fund’s total gains. Over the last 10 years, this fund has earned an average rate of return of 10.93% per year. While that’s not a massive difference from the previous ETF’s 12.83% average annual return, it can make a difference over time.
The Vanguard International High Dividend Yield ETF(NASDAQ: VYMI) contains stocks with the potential for above-average dividend yields, except it only includes international companies.
Investing in international stocks can have both advantages and risks. If you currently own only domestic companies, adding an international ETF can create more diversification. Sometimes, international markets are more favorable than the U.S. market, creating potential for higher returns.
That said, international stocks can sometimes be more volatile, too, especially during periods of economic or political instability. Just over 21% of the stocks in this particular ETF come from emerging markets, which are often less stable — yet also have the potential for faster growth than developed markets.
The International High Dividend Yield ETF issues quarterly dividend payments, which have experienced greater fluctuations between quarters. While the previous two ETFs had fairly consistent payments in the $0.85 to $0.95 per share range, this fund has paid dividends of between $0.60 and $1.07 per share this year alone.
In short, international stocks can be more lucrative, but there’s also a higher chance of short-term volatility. If you’re looking for international exposure and are comfortable with somewhat higher risk, this ETF could earn higher-than-average dividends over time while diversifying your portfolio.
Investing in dividend ETFs is a smart way to gain exposure to dividend stocks, add some diversification to your portfolio, and build a source of passive income at the same time. By investing consistently and gradually increasing your stake, you could build a passive income stream worth thousands of dollars per year.
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Katie Brockman has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Vanguard Dividend Appreciation ETF and Vanguard Whitehall Funds-Vanguard High Dividend Yield ETF. The Motley Fool has a disclosure policy.
