These 5 dividend funds offer the flexibility to weather the pandemic

  • By Lawrence C. Strauss,
  • Barron's
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Many dividend stocks have not performed all that well during the coronavirus pandemic.

Consider the SPDR S&P Dividend ETF (SDY), which includes shares from issuers of various sizes. It has returned around minus 14% this year, versus negative 4% for the S&P Composite 1500 (.SPSUPX).

Dividend stocks have faced headwinds, including payout cuts and suspensions as efforts to fight the pandemic have weighed on cash flow in many sectors. Dividend issues also tend to have more of a value bent, and value has struggled against growth stocks. To wit: The Russell 1000 Value Index (.RLV) has notched a minus 16% return in 2020, compared with plus 10% for the corresponding growth index (.RLG).

But there are actively managed U.S. dividend-focused funds that have held up reasonably well in 2020, and could be worth a look for investors seeking some stability to go with their yields. The accompanying table lists five such funds.

All of these portfolios are in Morningstar’s large-cap blend category, meaning that their investment focus falls somewhere between growth and value. Having that flexibility appears to have paid off in this environment.

Another common thread is Microsoft (MSFT), which was the largest holding for four of these funds, based on their most recent portfolio disclosures—and the second-largest for the other fund. Microsoft offers a modest yield of 1.2%, but the stock has appreciated about 30% this year, adding ballast to these funds.

Why focus on actively managed funds? After all, passive dividend-focused ETFs and index funds can be a good option for many investors, in part because they usually enjoy cost advantages that are reflected in lower expense ratios. Unlike an actively managed fund, which must pay its portfolio managers and research staffs, an exchange-traded fund typically tracks an index, often precluding the need to analyze and select stocks. The SPDR S&P Dividend ETF, for example, sports an expense ratio of 0.35%, well below those of the actively managed funds shown in the table.

For this column, however, we wanted to see how actively managed funds are positioned, given their investment flexibility and ability to buy stocks that aren’t linked to an index.

As of May 31, the largest holding of the Parnassus Core Equity Fund (PRBLX) was Microsoft. The Parnassus fund, however, doesn’t have to rely entirely on dividend shares, an advantage that’s helped this year. At least 75% of the portfolio’s assets “will normally be invested in equity securities that pay interest or dividends,” according to the fund’s prospectus.

The fund’s second- and third-largest holdings were Amazon.com (AMZN) and Alphabet (GOOG), neither of which pays a dividend. Amazon is up around 50% this year, compared with a 7% gain for Alphabet. Rounding out the portfolio’s top five investments were Comcast (CMCSA), off 10% this year, and science and technology company Danaher (DHR), up 15%. The stocks yield 2.4% and 0.4%, respectively.

Parnassus Core Equity’s year-to-date return was minus 3.75%, as of June 29, the best showing among the five funds in the table. Holdings in the fund must meet its fundamental and ESG (environmental, social, and governance) requirements.

Says Connor Young, a Morningstar analyst: “It’s really no surprise that the fund has consistently held up well in down markets.” Young adds that the managers look for companies with “predictable results.”

The second-best performer is the Amana Income Investor Fund (AMANX), returning minus 4.18%. Its top holding, as of May 31, was pharmaceutical firm Eli Lilly (LLY), which has returned 26% this year. The stock yields 1.8%.

The fund says that it “limits the securities it purchases to those consistent with Islamic and sustainable principles.” Its investment screens “exclude security issuers primarily engaged in higher ESG risk businesses; no alcohol, tobacco, pornography, weapons, gambling, or fossil fuel extraction.”

Its other top five holdings, starting with the largest, were Microsoft; Rockwell Automation (ROK), which yields 1.9%; Intel (INTC), 2.2%, and food company McCormick (MKC), 1.4%. All of them have outperformed the S&P 500 (.SPX) this year.

The other three funds in the table have trailed the S&P 500 in 2020, though not by big margins.

Compared to its Morningstar category averages, the Franklin Rising Dividends Fund (FRDPX) is overweight health care, industrials, consumer defensive, and basic materials. The sectors it recently underweighted included financials and utilities. It had a fairly small underweighting in technology. Its top five holdings, as of May 31: Microsoft; Roper Technologies (ROP), which yields 0.5%; consulting firm Accenture (ACN), 1.5%; medical technology company Stryke (SYK), 1.3%, and Air Products & Chemicals (APD), 2.2%. Except for Stryker, which is down about 13%, all of those stocks have notched gains this year.

It’s worth noting that the Fund’s A shares have a hefty maximum initial sales charge, or front load, of 5.5%, according to the summary prospectus.

The Westfield Capital Dividend Growth Fund (WCDGX) is overweight technology, among other sectors. Besides Microsoft, its largest holdings recently included Apple (AAPL), which yields 0.9%. The stock has returned about 25% this year.

As of March 31, the Buffalo Dividend Focus Fund (BUFDX) also counted Microsoft and Apple as its top two holdings.

Together, the solid relative performance of these funds shows that, in the right hands, actively managed dividend funds can add value in volatile markets.

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