Yields of Dreams

If you build it, they will come. It, of course, being an exchange-traded fund with a high yield to draw in income-starved investors.

The shiny lures with tickers like YLD and DVY attract lots of small fry looking for a richer stream of income.

A high yield is hardly a guarantee of value. It could, for example, reflect a prevalence of value traps destined to disappoint when their payouts prove unsustainable.

But so long as this bull market rolls on, a high diversified yield is more likely to come down as a result of capital appreciation.

That being the case, let’s dig into two of the higher-yielding ETFs that are doing so without the benefit of leverage.

The Global X SuperDividend U.S. ETF (DIV) comes by its current 5.8% yield by focusing on 50 U.S. stocks with the highest yields and low volatility. The quest for constancy has led it to the H&R Block (HRB) tax preparation chain, along with lethal products makers Sturm Ruger (RGR) and Philip Morris (MO).

DIV leans most heavily on utilities and mortgage REITs; together these two sectors account for nearly half of the portfolio. Consumer discretionary and staples stocks are also well-represented, along with master limited partnerships.

The ETF has assets of $415 million and an expense ratio of 0.45%. It’s paid monthly distributions since inception four years ago.

But while its portfolio succeeds at being less volatile than the S&P 500 index, its volatility-adjusted performance as measured by the Sharpe Ratio has been subpar. Consistency is not without costs. DIV is up not quite 7% vs. almost 12% for the S&P 500 year-to-date; it’s also trailed the market in 2016 and 2015.

Diversified income fans willing to venture further afield can land a current yield of 6.7% from Arrow Dow Jones Global Yield ETF (GYLD).

GYLD also makes distributions monthly though they’re much more variable than DIV’s. GYLD tracks the Dow Jones Global Yield Index, which allocates 20% apiece to Global Equity, Sovereign Debt, Corporate Debt, Real Estate and Alternative asset classes. Each basket consists of 30 securities. That gives GYLD a 60/40 breakdown between stocks and bonds. U.S. exposure is at 45% of the portfolio, and no other single country is much above 5%.

Given its broad mandate to own everything from Chinese utilities to Turkish bonds, GYLD’s 0.75% expense ratio doesn’t seem excessive. Performance, however, has been lacking. After a strong 2016, the fund returned to the bottom of its Morningstar category this year. It’s up a little over 3% in 2017.

Over at Income Millionaire, we believe free cash flow and its growth rate are much better markers of sustainable high income than the dividend yield. And I’d much rather own the several IM recommendations currently yielding more than 10% than DIV or GYLD, despite these ETFs’ diversification benefits.

But unsophisticated income investors certainly have lots of options these days, including some significantly worse than these funds.