Investing - Total Return for Dividend Stocks

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Dividend stocks and ETFs have an odd characteristic. Their stated goal is to produce income via dividends, but actually their total return (income plus growth) is just as important as the dividends. The issue is that the listed dividends are the current dividends. But you probably want those dividends to increase with inflation. If the payout ratio (profits paid as dividends / total profits) is 50%, half of profits go to dividends and the rest are used to, hopefully, increase profits and produce higher dividends in the future or buy back stock to increase the stock value. Businesses that have a high payout ratio pay high dividends, but don't grow as fast as businesses with low payout ratios. And if they pay out more than 100% of profits, the business is shrinking.

So my suggested strategy for selecting a dividend ETF or stock is decide how much I need from dividends and select an ETF that gives me that, and no more. The more is used by the business to improve future dividends, so it not disadvantageous to own this business.

There are a number of covered call dividend ETFs. These use stocks as collateral to gamble on the stock price. If they win, you get the result as an ETF dividend. Two problems - these are not qualified dividends, so taxed as income, not capital gains. And if they lose, they must sell the stock below market value. They can offer very nice dividends as long as they are winning. And they can continue the nice dividends while they are losing, but their value will go down.

When I chose to use SCHD and VYM a few years ago, SCHD had a dividend of about 3.5%. VYM about 3%. SCHD was significantly ahead in total return for the past ten years. This year SCHD is paying 3.8% and VYM is paying 2.5%. But total return, VYM value is up 12.8% and SCHD is up 1.6%. So VYM is set to give 12.8% higher dividends on the cost basis than the reported dividends because the principal has grown 12.8%. SCHD is set to give 1.6% higher dividends on the cost basis than the reported dividends.

Compare JEPI to VOO, VYM, SCHD - using totalrealreturns.com. Total return (dividends reinvested) per year for 5 years. JEPI 10.3%, VOO 17%, VYM 14.5%, SCHD 10.4%. JEPI is actively managed and uses covered call options to improve returns. It returns 8.4% dividend (currently). But that means that growth is just 1.9%, not keeping up with inflation. VYM returns 2.5% currently. But it's growing 12% per year. SCHD returns 3.8% currently and growing at 6.6%.

The net of all of this - the best dividend stocks or funds are the ones with the best total return while giving you the amount of income that you need, but no more. Beware if the dividends exceed about 4%. These are at significant risk to drop in value either because the businesses are likely paying more than half of their profits in dividends or the fund manager is gambling with the stocks to get higher dividends.

SCHD - I have a blog post about SCHD, which, in the past, looked like an outstanding dividend fund. Recent performance doesn't look so good - apparently it's in out of favor sectors. So, when I say "That's history, not prediction" take it to heart. VYM looks a lot better recently.