The SPDR Portfolio S&P 500 High Dividend ETF (SPYD -0.42%) is one of many dividend-focused exchange-traded funds (ETFs) income investors can buy today. What sets it apart from the rest is the simplicity of its stock selection approach. While it is often a good idea to keep things simple when investing, if you buy this ETF, you also need to ensure that you understand the limitations of its simple approach.
What does the SPDR Portfolio S&P 500 High Dividend ETF do?
There are really just two factors that are important to understand when you are looking at the SPDR Portfolio S&P 500 High Dividend ETF. The first is that it selects stocks from the S&P 500 index (^GSPC -1.59%). This is important because the S&P 500 is a broad market performance gauge. It contains roughly 500 stocks that represent around 80% of the total U.S. market capitalization. The companies in the index tend to be large and well followed on Wall Street.
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The SPDR Portfolio S&P 500 High Dividend ETF simply takes all of the companies in the S&P 500 index and lines them up by dividend yield, from highest to lowest. The 80 highest-yielding stocks get put into the ETF. That is, pretty much, as simple as you can get.
There is one important difference between the S&P 500 index and the SPDR Portfolio S&P 500 High Dividend ETF. The S&P 500 is market cap weighted, ensuring that the largest companies have the greatest impact on performance. However, the SPDR Portfolio S&P 500 High Dividend ETF uses an equal weighting methodology, so each stock has the same opportunity to impact performance. This is an important issue, but to understand why requires a bit more of a discussion.
SPYD Dividend Yield data by YCharts.
What does the SPDR Portfolio S&P 500 High Dividend ETF’s portfolio look like?
Just buying stocks because they have high yields has a material impact on the portfolio that is being created. For example, there are some sectors that are historically known for offering investors high yields, including real estate investment trusts (REITs), utilities, and financials. There’s nothing inherently wrong with any of these sectors, but if you just focus on yield, you will likely end up with heavy weighting in them. And that’s exactly what you get when you buy the SPDR Portfolio S&P 500 High Dividend ETF, with REITs at around 23% of assets, utilities nearly 17%, and financials about 15%. Add those three up and you get around 55% of the portfolio in just three sectors. That’s a lot of concentration when you consider there are only 80 stocks in the ETF.
The next issue you’ll find when only selecting based on yield is that troubled companies often end up with high yields. For example, pharmacy company CVS Health (NYSE: CVS) is currently the largest holding in the ETF. The stock has fallen around 40% since hitting a high in early 2022 and is currently out of favor on Wall Street as its business model faces increasing pressure. There’s a lot more to the story, of course, but the important fact is that CVS isn’t hitting on all cylinders today and, yet, it is the largest position in the ETF. Buying this ETF means you will end up owning stocks you might otherwise not think to buy.
CVS data by YCharts.
That said, equal weighting helps out on this front. Even though you may own stocks you wouldn’t otherwise buy, they aren’t likely to “blow up” your portfolio if they underperform. And in a year that stock could end up out of the portfolio (when the ETF rebalances its holdings) if things go really poorly for the business (resulting in a dividend cut) or really well (the stock rallies to the point where the yield is no longer near the top of the yield pile). In other words, the equal weighting approach is an important way to minimize overall risk.
What do you get with SPDR Portfolio S&P 500 High Dividend ETF?
The S&P 500 index is offering a yield of just about 1.2%. The SPDR Portfolio S&P 500 High Dividend ETF’s dividend yield is 4.2%. That’s an attractive yield, but this ETF alone probably won’t make you a millionaire. Or at least it won’t achieve that very quickly. But it can be an integral part of a broader portfolio, in which you augment the ETF with more growth-oriented ETFs or individual stocks.
That could actually make the ETF a very attractive buy, effectively allowing you to ignore select sectors and contrarian investments so you can focus your precious time and energy on investments that have more growth potential. But if you are going to make use of this ETF, you really need to make sure you know what it does and why.
