Key Points
- A high-dividend-paying ETF can be a source of passive income
- Individual shares can give a higher return, but not all high-yielding companies will be winners
- This kind of fund might offer me some downside protection
Passive income means a regular income stream that requires very little effort. In this respect, it’s sometimes referred to as ‘making your money work for you’.
The internet is full to the brim with suggestions for how to achieve this. However, one idea that interests me for my portfolio is a high dividend-yield exchange traded fund (ETF). This is a fund that tracks an index or sector and can be bought and sold like a stock through most online brokers.
The idea is simple, this kind of investment should pay me a regular dividend at certain intervals throughout the year. Then there’s also the potential price appreciation of the fund.
What I’m considering
The ETF I’m looking at for 2022, is one I’ve studied before, iShares FTSE UK Dividend GBP UCTIS ETF (LSE: IUKD). This fund aims to replicate the return in the FTSE UK Dividend + Index by investing in the 50 firms with the highest dividend yields in the FTSE 350.
It has a low expense ratio of 0.4%, good trading volume and is large. Looking at the companies included shows just how well it’s diversified across industry sectors. For example, established big names like HSBC, GlaxoSmithKline and Vodafone are just a few of the largest holdings.
One of the main risks in a high-yield fund like this is the dividend trap. Some of these high-paying companies will be mature businesses that are great at generating free cash flows. However, some will feel they have to maintain high dividends to keep their investors happy when the company itself is not growing. In the long run, such companies could falter.
That said, there’s a 5% cap on any individual holding in the fund, this should provide resilience in case any individual company significantly underperforms. It’s exactly this kind of robustness that makes me like ETFs as investments.
Should I invest?
Looking at the performance, the fund gained around 18% over the last 12 months and around 3% year-to-date. I’m generally bullish on the 2022 outlook for the UK market and though nothing is certain in investing, it wouldn’t surprise me if this fund continues to gain.
The current dividend yield is 5.78%, which is paid quarterly. Though it’s less than some of the best dividend payers in the FTSE 100, it’s good enough for my own portfolio. The trade-off is that I’m giving up the chance of higher returns from individual stocks for the benefit of owning multiple companies through a single share.
The fund is also rebalanced on a semi-annual basis as the index updates. In theory, this means that the ETF automatically updates with the companies with the highest returns. Rather than buying and selling shares in individual companies myself, this does it for me.
In my mind, this really is a hands-off investment. Therefore, I’m going to seriously contemplate adding it to my holdings as part of a balanced portfolio.
