These funds multiply the market’s dividend yield. How do they stack up
The race among ETF issuers to find a new way to extract more income from stock portfolios widened again on Tuesday, with a new fund from Pacer that aims to deliver increased returns. The company launched the Pacer Metaurus Nasdaq-100 Dividend Multiplier 600 ETF (QSIX), a sister fund of the US Large Cap Dividend Multiplier 400 ETF (QDPL) that has grown to more than $500 million in assets since its launch in 2021. The funds have a targeted distribution equal to six times the dividend payout of the Nasdaq-100 Index and four times the dividend of the S & P 500, respectively. Funding strategies have become a major growth area for ETF issuers in recent years, with covered call funds arguably the most popular niche. The Global X covered call ETF on the S & P 500 ( XYLD ) and the Nasdaq-100 ( QYLD ) now has combined assets of more than $10 billion, according to FactSet. And JPMorgan’s Premium Income ETFs — JEPI and JEPQ, which use a variant of the combined call strategy — have more than $50 billion in assets combined. A potential disadvantage of covered call funds is that they impose a hard cap on the portion of the portfolio that is “combined” by the call option. The idea behind Pacer funds is that the funds will absorb most of that during market rallies, according to Sean O’Hara, president of Pacer ETF Distributors. QDPL, for example, currently has 89% of its exposure to stocks in the S&P 500, with the rest used to trade in dividend futures to generate additional income, according to the fund’s website. There is no solid side cover for the dividend section. “What we’re looking to do is get a total return that’s close to the S&P 500, and four times the cash flow even if the dividend yield is the S&P 500,” O’Hara said. of QDPL. The QSIX is similar but focuses on Nasdaq-100 stocks instead. Portfolio Pacer funds mimic the holdings of an underlying equity index while buying long positions in futures contracts covering each of the following three years. The ratio of equity exposure to future earnings exposure is adjusted for the balance of the year to better achieve the target distribution multiple, O’Hara said. By holding all index stocks in a portfolio, funds hope to avoid some of the sector and style risks that come with funds that simply buy dividend-paying stocks. “Typically you’re going to own a lot of stocks, a lot of utilities, a lot of real estate. And typically those sectors don’t show earnings growth,” O’Hara said of dividend-only funds. -paying shares. Over the past three years, QDPL has outperformed several popular dividend-focused funds, including the ProShares S&P 500 Dividend Aristocrats ETF (NOBL) and the Schwab US Dividend Equity ETF (SCHD) in terms of return, according to FactSet. However, the Vanguard Dividend Appreciation ETF (VIG) underperformed. Dividend futures are based on indices that track the number of dividends paid during the year for a group of stocks, selected as “scores” by the S & P Dow Jones Indices. Futures contracts are effectively bets on what the total score will be on a specified date, according to CME Group. Income details The income distributed by income ETFs are not created equal, however, and investors should be aware of how they differ and the potential impact on their annual tax bill. For example, income earned by Pacer funds comes from three different sources, which can impact after-tax returns. By 2023, Pacer estimated that the QDPL fund’s income would drop to 23% from S&P 500 equities in the underlying stocks, 8% from capital gains from futures contracts and 69% from capital returns. QDPL’s website currently shows a distribution yield of 5.79%, or more than four times the 1.3% dividend yield on the S&P 500, according to YCharts.com. However, the SEC’s 30-day fund yield — which does not include returns from futures contracts — is 1.01%. By comparison, JEPI generates a large portion of its income from fees earned by writing call options, and has a 30-day SEC yield of more than 7%. Another possibility is that partial returns from Pacer funds may not be counted as taxable income. The bad thing is that it is not really new money, but it is the return of the principal of the fund and that may lead to the assets under management decreasing. That may affect long-term performance. The biggest gains from equity futures come from the fact that contracts are often priced at a discount to projected payments, to compensate investors for the risk, according to O’Hara. Dividend futures could see big gains if more companies in the index decide to start paying dividends. “The big names on the Nasdaq, in particular, are not paying dividends right now,” O’Hara said, which means there could be a cap if some of those names, like Amazon or Tesla, suddenly announce payouts. As a possible predictor, Meta Platforms first started making profits last March. Apple started paying a dividend in 2012 and Microsoft in 2003. To be sure, dividend futures contracts can also reduce in value during times of economic distress. For example, many companies suspended their dividends during the Covid-19 crisis, including several major banks.
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