The Secret to SCHD Success that No One is Talking About

schd is the Schwab U.S dividend Equity ETF that's extremely popular and has done very well over the last 10 years but there's a secret to schd's success that nobody ever really talks about and I'm not even sure that they know about in this episode of the build investigative podcast we're going to break down what makes schd different from other dividend ETFs show you how a little bit of extra effort can give you a wealth of information that no one else is paying attention to and we're going to walk through head-to-head comparisons of schd to its peers so let's get into it all over YouTube and Twitter right now people are talking about how schd is underperforming the broader Market specifically the S P 500 and if you've listened to this podcast we've talked about this before most of the gains if not all of the gains of the S P 500 in 2023 have been due to a handful of big tech companies it's Apple it's Nvidia it's Google it's meta and they've really driven pretty much all of the gain year to date in the s P so schd obviously doesn't have these companies in it so it's absolutely going to underperform right it has different companies in it and even when you look at the amount of information technology companies that are in schd it's only 12 and a half percent of the ETF so it's also a relatively low exposure to the probably one sector that is actually outperformed so far this year so a lot of the content out there recently has been about finding alternative dividend ETFs to invest in other than sehd because it hasn't been performing as great you know maybe over the last two years as it had over the last 10. and the real question is are they really Alternatives because when people compare dividend ETFs what do they usually compare right they compare one the total return which is absolutely important and understandable two they compare the expense ratio that's important as well so that makes sense but then they compare the dividend yield and dividend yield is important especially if you're dependent on that cash now and you want a specific payout or you need a specific payout but you know I just made a whole video about how dividend yield in general doesn't really matter if you have a investment timeline that's over 10 years right probably less than that but definitely if it's over 10 years and so when people compare dividend ETFs just on those three criteria you're missing a big chunk of what you actually need to be evaluating and what you need to be evaluating with the dividend ETF and as well as any ETF that you might invest in is what are the actual criteria that they're using to choose the companies that are in the ETF right you can have a bunch of different companies that have a bunch of different dividend yields that are in very different places in terms of their health in terms of their growth in terms of their stability but what people don't talk about is what exactly has made schd a success over the past 10 years to where a lot of people consider it kind of the king of dividend ETFs and the truth is that the secret to success for schd is in the way that it's constructed so every ETF out there basically has criteria that they use to determine what stocks are going to go into it now a lot of these ETFs the especially the passive ones like schd will use a benchmark index that they just basically copy and track and in this case schd uses the Dow Jones U.S dividend 100 index and so that index has specific value criteria which are basically the rules that it uses to determine what stocks are going to go into it and the great part about it is you can see exactly what it is for the most part if you just look and it reminds me of that scene from The Big Short remember when he was like I read them them only the one that is such a great movie I just I just love it so much but nobody reads ETF methodology PDFs it's true but we're about to so before we dive right into it you may just have a simple question of how would I even find this type of thing but it is way more simpler than you think I mean number one you just look up your ETF you scroll down to its profile information and in that profile information it'll say something like this ETF aims to track this specific index and once you find the name of that index you can literally just do a Google search with the name of that index and you can just use that by itself and then click through the website or you can just add methodology to the end of your search and it will take you to a page or even directly to the PDF that shows the methodology that that Benchmark index is using so not all of them are going to have every piece of information about how they pick stocks because in some cases they view it as proprietary information but with schd it's all there like every single criteria they use it's spelled out and it's just unbelievable to me that a little bit of effort and in this case it's like 10 seconds and maybe a Google search can get you a wealth of information to help you make better investment decisions that most people are just completely ignoring but let's dig into schd so just some real quick Basics schd is the Schwab dividend Equity ETF The Benchmark that it uses like we mentioned before is the Dow Jones U.S dividend 100 it that means it has about 100 stocks in it technically here it has 104. has a dividend yield of 3.54 percent and an expense ratio of 0.06 percent which is extremely low and here are the criteria that actually go into this ETF and I'm going to go through each of them one by one um and we'll kind of talk about them all right so the first thing the eligible Universe of stocks begins with U.S stocks so it has to be domestic number two no REITs so a real estate investment trusts which are known to have high dividend yields but there's a bunch of different rules related to REITs there's different tax implications to reads so actually all of the dividend ETFs we're going to talk about today all have the exclusion of REITs in their criteria so no Real Estate Investment Trust number three the companies need to have 10 plus consecutive years of dividend payments now notice that doesn't say dividend growth we'll get to that in a minute but they need to have 10 plus consecutive years of dividend payments number four they have to have a market cap of at least 500 million dollars and so the reason why they do that type of thing is they want companies above a certain size only just because as you get into these like smaller cab companies micro cab companies they tend to be more volatile they tend to be less stable um and so they're kind of cutting it off and they have to be at least 500 million dollars in terms of market cap number five they need to have a three-month average daily volume traded of at least two million dollars again this is more of a wanting companies that have specific amounts of liquidity in the market so once they have that cut off that criteria list then they basically sort that list in descending order by dividend yield now this is probably the most controversial part of their criteria and we're going to talk about why here in a minute but they base basically do a sort with you know highest to lowest by dividend yield and so once they sort that list by dividend yield then the top half of the list are eligible to be put into the index and then once they remove the bottom half and they just have those top half of stocks in their available Universe then they start to do some additional criteria that speak to the quality of the company and how they're performing and to me this is the thing that really sets schd apart from its peers in terms of the depth and the way that they approach this extra valuation criteria so let's go through them and so that top half of that list that we're evaluating is now going to get a score based on these four criteria one free cash flow to total debt so if a company has zero debt it's going to be ranked first two return on equity three dividend yields and then four a five-year dividend growth rate and each of those four categories are equal weighted and they create this like composite score that they then use to determine what are the top companies in this list so even though the initial list is sorted by dividend yield the actual weighting and all that is determined by the composite score which includes these other measures like return on Equity like dividend growth and like free cash flow to total debt and once they rank all those stocks with that composite score the top 100 are then basically put into the ETF all right so we go back to why sorting by dividend yield can be a little bit of a controversial thing so number one yes they want to maximize the yield because it's an attractive thing for investors people look at it and they see it and it makes them want to you know buy the ETF but it's also a way to try to capture undervalued stocks because you know as you know as your stock price goes down if your dividend payout stays the same then your dividend it goes up as long as they meet your quality criteria then you're not just buying High dividend yield companies that aren't very good you're basically saying I'm looking for good companies that just happen to be undervalued right now but the reason why I may be controversial to some is you're going to miss out on great companies like apple or Microsoft because their dividend yield will never meet that threshold of that top 50 percent and it may not seem like a big deal but I'll show you the impact that it's had at least recently on how schd's performed against its peers now all this stuff may be a little nerdy and you're like dude I don't care about this but I just want to show you how different it can be in terms of how other dividend ETFs are constructed compared to schd and we'll go ahead and get started with a couple of Vanguard ETFs Vig is the Vanguard dividend appreciation ETF it uses the S p u s dividend Growers index has its Benchmark it is a 1.91 dividend yield and a 0.06 percent expense ratio which is exactly like schd and hold holds a total of 314 stocks so about triple the amount that are in schd and here's the criteria that it uses so one no real estate investment trusts again two it has to have a three month median daily volume traded of one million dollars or more if they're in the index it can be 500k but this is again to show that the stock is has enough liquidity the company's big enough to be able to put in there companies need to have 10 years or more of dividend growth and then at that point that Universal companies is ranked by annual dividend yield and so in that case it's kind of similar to what schd does but then what they do next is very different so once they rank the companies by annual dividend yield the top 25 percent are removed and then the remaining companies are selected and put into the index and so you might be wondering wait a minute it's a dividend ETF but they're taking the top yielding companies and cutting out the top 25 percent completely from the index why would they do that well it's a quality thing right A lot of times when you look at companies and you look at the ones that are paying the highest percentage dividend yields they're usually not the highest quality companies in terms of stability or in terms of long-term total return what schd is doing in contrast is it's saying you know what we're going to take the top 50 of the top half and then we're going to add additional quality criteria so that only the ones that meet that additional quality criteria are going to be in the index so just a slight difference and that's why schd has only 100 stocks and Vig has over 300. and what you might have noticed in vig's example is that there's nothing in there about how the company's performing or their financials only kind of some basic stuff around dividend yield and then kind of the size and market cap of the company but that's about it all right let's go ahead and look at another one and Vanguard actually has another very popular dividend ETF it's vymard's high dividend yield ETF it's based on the ftsc high dividend yield index it has a dividend yield of 3.12 percent an expense ratio again of 0 0.06 percent it holds about 462 stocks so four times the amount that schd holds and here's the criteria one no Real Estate Investment Trust like all the rest two stocks that pay a dividend hey that makes sense for a dividend ETF and then three additional proprietary screens are also applied now you might be wondering hey wait a minute that doesn't tell me anything and you're right it doesn't so this one is one where we really get no visibility into what those proprietary screens are they may be doing the same quality screens that schd is doing I'm guessing they're not because there's 462 stocks in there but they're doing something that we don't really know what it is but it's just interesting that you know the only information we get about this one is no REITs and basically stocks to pay dividend and then some magic happens and we spit out 462 stocks for you all right so that one was kind of a downer but let's take a look at one more so D grow dgro is the ishares core dividend growth ETF and it's based on the Morningstar U.S dividend growth index it has a dividend yield of 2.38 percent and an expense ratio of 0.08 percent currently holds about 427 stocks so the criteria for d-grow one they need to be U.S stocks two they need to have a positive dividend yields three they need to not be a real estate investment trust common theme across all of these four they need to have five plus years of dividend growth they need to have a positive consensus earnings forecast and a payout ratio less than 75 percent all right now we're getting into some interesting stuff right we haven't seen this before but hold on there's one more and it needs to have a indicative yield that's not in the top 10 percent of the dividend screened universe now that was a very confusing way to say they're basically cutting out the top 10 percent of dividend yield companies so like how the previous one just basically cut the top 25 percent just blanket kind of rule what they're doing here is saying out of all the companies that meet the above criteria which is going to be a much smaller list if any of them happen to be in the top 10 percent of dividend yield of all the dividend paying companies then we're not going to include them so this kind of goes back to that quality criteria of companies that are at the top of dividend yield usually aren't the best companies and what I like about that approach is you're putting a much more structured kind of measure on it to where you already have your quality criteria and then if any of those ones that met your main quality criteria also just happen to meet this random one then kick them out so the criteria around d-grow is actually really interesting I think it's the closest thing to schd in terms of trying to focus on Quality Companies that meet specific criteria now their criteria are different because they're using things like consensus earnings forecasts and payout ratio instead of cash flow to debt and return on Equity but they all kind of lead to the same place of we want the best companies that we can find and so here's the interesting thing part of the reason why I chose these three is vymo have all actually outperformed schd over the past two years now schd over like the last 10 years I think even over the last five has outperformed the rest of them but over the last two it's underperformed all three of them and that's because these other three have companies like apple Microsoft and Exxon Mobil which have all done extremely well since 2021 compared to the broader market right and schd doesn't have those in it so it's obviously going to underperform And So It ultimately begs the question of is schd's criteria really the best thing or not or is it at a point in time where you know it might have outperformed over the past 10 years but it may not going forward like what does this all mean exactly is schd still going to be the king of dividend ETFs or not so my opinion on this is that their valuation criteria is very good and here's the key if you're looking for Quality dividend companies that are paying a good yield that have good dividend growth and might be undervalued right now then yes schd is great for that because that's exactly what they're screening for now what you'll be missing out on is companies like apple and Microsoft which pay dividends but are never going to meet that kind of top 50 threshold and you'll also miss kind of the growth companies like the Googles and the metas and the other ones that don't pay dividend at all now you could get those companies by going to Vig or D grow or you know one of these other dividend ETFs that include them but I think the real question now that you you know have more visibility into what these ETFs are actually doing and how they're picking stocks is when you understand that criteria it's matching that up with their investment goals right so if you go to degrow or you go to Vig their dividend yields are let me look here 2.38 and 1.91 respectively right so for me if you really wanted exposure to those companies you might be better off just getting an S P 500 Index Fund like vo because you'll still get 1.51 dividend yield which is relatively close to those other two quote-unquote dividend ETFs and you get exposure to those companies like apple and Microsoft and Exxon that have kind of driven the market over the past two years but then you also get exposure to the companies that don't even pay dividends so you know it really depends on what you want to focus on if you truly want to focus on dividend payouts and dividend growth specifically I still think that schd is the king you just have to understand exactly what it's the king of undervalued dividend Growers with good yields and just make sure that that approach aligns with your investment goals and time Horizon but it is crazy how just a little bit of extra effort can get you all the information that you need to be able to make that decision now for me schd is a core part of my portfolio but it's not my only holding I have exposure to other things outside of schd in general I do think that quality companies that constantly increase their cash flow and dividends over time are going to do well even if they're not the hot thing in the market right now but that's why it's so important for us to really have a good understanding of what we bought and why we bought it so that we can deal with the ups and downs on an income in the market whether that's price volatility or headlines in the news or crazy tweets or YouTube videos that try to scare us away from getting those long-term gains and just gives us the confidence we need to kind of stay the course and actually see the benefit that we're invested for so thanks for listening to today's episode of the build investler podcast hope you guys have a great day out there Financial Independence is true Freedom so keep building and stacking wins and I'll see you guys in the next one peace [Music]

Channel: Matt Derron

Views: 160,409

Keywords: SCHD Dividend ETF, SCHD ETF review, SCHD vs VYM, SCHD vs VIG, SCHD vs DGRO, SCHD stock review, SCHD criteria, SCHD methodology, Schwab Dividend ETF Review, VYM criteria, VYM etf, VYM vs VIG, VIG criteria, DGRO criteria

Id: D0c4qIkoQHY

Length: 19min 37sec (1177 seconds)

Published: Tue Jul 18 2023