ETF Expert

In a traditional bear market, dividend-heavy mutual funds typically ease the pain. In this housing/credit crunch bear, dividend-based ETFs and dividend-oriented mutual funds have only exacerbated the agony.

The reason? Financial companies usually account for 1/3 to 1/2 of dividend ETFs. So when financial company stock prices lost 40% in value (in one day, if you’re Lehman), dividend-based funds shed nearly 20% of their overall value.

Tack on the rest of the bear market mauling, and the average dividend ETF is 25%-30% off its highs. That’s worse than the benchmark S&P 500 SPDR Trust (SPY), which is off roughly 20% since October 9, 2007.

Yet a small cadre of dividend ETFs have shown greater resistance to the bear. Three, in particular, are down a fraction of the S&P 500 SPDR Trust (SPY.)

1. Vanguard Dividend Appreciation (VIG). This one is down only 9% on the year through 9/9/08, whereas the S&P 500 has lost 17%. VIG tracks the Dividend Achievers Index — a grouping of 213 companies that have a long track record of increasing dividends over time.

Of course, the real success of VIG is its low allocation to financials and telecom — 11% and 4% respectively. That has allowed for a 25% weight in recession-resistant consumer staples companies. (In other words, a little digging under the hood explains the relative performance for Vanguard Dividend Appreciation (VIG).

Before you get too excited, however, there’s a big difference between dividend yield and dividend appreciation. The latter looks for companies that are super stable and have a history of raising dividends. Vanguard Dividend Appreciation (VIG) doesn’t yield all that much for yield hunters, approx 2% annually.

2. WisdomTree Small Cap Dividend Fund (DES). In truth, I am somewhat shocked that this fund passed my screen. This fund does have 1/2 of its allocation to financial companies. Yet, the WisdomTree Small Cap Dividend Fund (DES) was down only 7% through 9/9/08.

The simple fact of the matter is that small-cap stocks have outperformed their large-cap counterparts. it follows that DES is performing a lot more like its genuine benchmark, the Russell 2000. And the Russell 2000 was down approx 6% in the same period.

Yet DES may have an advantage over time — the same advantage that dividend seekers discuss when they recite the "for-the-long-term" mantra; specifically, you’re getting paid to hold great companies. And in the case of WisdomTree Small Cap Dividend Fund (DES), 4.7% isn’t too shabby. (Personally, I’d still be worried about exposure to small banks… so this is by no means a recommendation!)

3. Eaton Vance Risk-Managed Diversified Equity Income Fund (ETJ). With a name like that, how can you pass it up? Diversification, income stream and risk management are right there in the title!

In actuality, ETJ is a closed-end fund, the mechanics of which differ from exchange-traded funds. But let’s put aside the semantics for the moment.

Here’s an unleveraged fund that is roughly 1/4 as volatile as the S&P 500 has been. That alone is attractive to some investors. ETJ’s annual dividend is about 10% paid out on a quarterly basis.

There’s not a lot wrong with owning an income-oriented fund that is paying out this handsomely… during a bull or a bear. And in 2008, those payouts have helped Eaton Vance Risk-Managed Diversified Equity Income Fund (ETJ) post a positive 4% YTD.

Disclosure Statement: ETF Expert is a web log ("blog") that makes the world of ETFs easier to understand. Pacific Park Financial, Inc., a Registered Investment Advisor with the SEC, may hold positions in the ETFs, mutual funds and/or index funds mentioned above. Investors who are interested in money management services may visit the Pacific Park Financial, Inc. web site.