dividends

Many investors don’t readily think of dividends and tech together, but there’s more than meets the eye with this union.

Talk to enough experienced dividend investors and chances are they’ll rattle off sectors like consumer staples, healthcare and utilities as some of their favorite payout destinations. Odds are equally good that they won’t mention technology.

That’s understandable, because the 12-month distribution rate on the largest exchange traded fund (ETF) tracking the tech-heavy Nasdaq-100 Index is a piddly 0.48%Obviously nothing to write home about, but that data point obfuscates tech’s status as a rising payout growth spot. In fact, in dollar terms, Microsoft (MSFT 0.78%) and Apple (AAPL 0.42%) are two of the biggest dividend payers in the S&P 500.

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Apple and Microsoft are widely held stocks, but in what amounts to a pleasant surprise for equity income investors, the duo is an appetizer in the tech dividend equation. Seven-course meals are available with the First Trust NASDAQ Technology Dividend Index Fund (TDIV 0.79%) and the ProShares S&P Technology Dividend Aristocrats ETF (TDV 0.81%).

Similar tickers, but different methodologies. So, let’s examine how these ETFs live up to their tech dividend billings.

TDV: A familiar playbook

As its name implies, the ProShares S&P Technology Dividend Aristocrats ETF has Dividend Aristocrats DNA. The TDV follows the S&P Technology Dividend Aristocrats – a collection of tech companies that have increased payouts for at least seven straight years.

With tech and dividends still considered newlyweds, that index requirement sounds confining, but TDV holds 38 stocks. That roster size is aided by index flexibility that allows for “tech-related” companies. Mastercard (MA 0.42%) and Visa (V 1.39%) being prime examples.

If there’s a rub with TDV’s plumbing, it’s that the dividend increase streak requirement precludes some big names from entering the index. For example, Alphabet (GOOG -0.98%) and Nvidia (NVDA 0.24%) are dividend payers, but they haven’t increased payouts for seven straight years, so they’re not yet candidates for TDV admission.

TDV has points in its favor, including equally weighting its holdings. That means the ETF can be an income-generating complement to stakes in tech funds that weigh components by market capitalization – many of which have rosters where a small number of stocks command whopping percentages of the portfolios.

TDIV: Tech dividend flexibility

While TDV’s dividend increase streak mandate has a country club membership feel to it, the First Trust NASDAQ Technology Dividend Index Fund has its own elements of exclusivity. The fund follows the Nasdaq Technology Dividend™ Index, which has several rules dividend investors need to acknowledge. Those include requiring member firms to have paid a dividend over the past year, no payout cuts over that time and a minimum yield of 0.50%.

By eschewing the payout increase streak protocol, TDIV sports a significantly larger roster than its rival – 94 holdings to be precise. There’s another big difference between the tech dividend ETFs. TDIV holdings are dividend value-weighted. In plain English, the ETF’s index places added emphasis on stocks with big dividends and massive market caps. Hence, Broadcom (AVGO 0.88%), Oracle (ORCL 0.84%) and Microsoft combine for nearly a quarter of the ETF’s weight. TDIV has a different way of doing things, but it’s hard to argue with its performance since inception in August 2012.

There are other marquee differences between TDIV and its nearest competitor. Notably, the First Trust ETF can hold international stocks, some of which have been additive to performance, and 20% of its portfolio can be allocated to communication services stocks. The latter point is pertinent because if Alphabet and Meta Platforms (META -1.08%) increase their payouts enough to drive their yields to 0.50%, those stocks would be eligible for TDIV admittance, perhaps increasing the ETF’s growth profile along the way.

Different tech dividend strokes for different folks

For fee-conscious investors, TDV is an appealing option because its annual expense ratio is 0.45%, or $45 on a $10,000 position, compared to TDIV’s 0.50%, but fee tussles aren’t the end ETF comparisons. Smart investors know there’s more to the story.

The ProShares ETF may be more appropriate for investors seeking documented dividend dependability via an instrument that as currently constructed, leans into mature, older guard technology companies. Plus, the fund’s equal-weight methodology may be attractive at a time when so many cap-weighted indexes are heavily concentrated in a small number of stocks.

On the other hand, TDIV is perhaps the better choice for growth investors that want a dash of income. Past performance isn’t a guarantee of future returns, but it shouldn’t be ignored that over the past three years, TDIV’s returns and volatility traits stacked up well against some traditional tech ETFs, indicating its flexibility and index mechanics play in investors’ favor.

Stocks that pay big dividends can give your portfolio a big boost, but beware! Some high dividends could be … traps!

A yield trap is a type of dividend stock offering a very high yield. But the only reason its yield is so high is that the share price dropped significantly over a relatively short time (and is likely to stay down for a while), increasing the odds that the dividend will need to be cut (or even suspended altogether). Investors who buy in chasing the high yield can get hit with the double whammy of a dividend cut and a sharp share price drop as investors dump the stock.

Here are three stocks paying high dividends that look very risky right now, and one high-yielding stock that’s a much safer pick.

Image source: Getty Images.

At-Risk Dividend No. 1: LyondellBasell (current yield: 10.4%)

Industrial chemical and materials companies like LyondellBasell (LYB -1.76%) have had a rough few years. Prior to the COVID-19 pandemic, these companies could count on steady, if slow-growing, demand for their products, which include construction materials, lubricants for industrial machinery, automobile coatings, consumer packaging, and other industrial products.

Usually, this diversified customer base would prevent a slowdown in one sector from affecting a company like LyondellBasell’s bottom line too much. However, the sectors that rely on these products the most — automotive, construction, and manufacturing — are in a multi-year slump.

This has hurt LyondellBasell’s bottom line. Trailing 12-month net income has collapsed by 96.7% over the past three years and free cash flow has dropped by 91.6% to $453 million. Considering that dividends are paid out of free cash flow, and the company’s current dividend payouts add up to $1.72 billion per year, investors should be concerned about dividend sustainability.

The company is clearly hoping it can power through. It has launched a “Cash Improvement Plan” and sold some assets in an effort to “support shareholder returns.” But with just $1.7 billion in cash left on its balance sheet, it won’t be long before the company has to either turn to borrowing to support its dividend — which isn’t sustainable over the long term — or cut it, like…

At-Risk Dividend No. 2: Dow (current yield: 5.8%)

LyondellBasell’s fellow chemical company Dow (DOW -1.36%) is facing the same headwinds, but has fared even worse, with earnings and free cash flow that both turned sharply negative in the most recent quarter.

Like LyondellBasell, Dow’s dividend yield crept above 10% as its share price dropped by more than 60% from its highs. However, with negative cash flow eating into the company’s balance sheet, Dow ripped off the bandage and cut its quarterly dividend in half, from $0.70/share to $0.35/share.

It’s ironic that even after that major cut, Dow still has a higher yield than most other companies. But if the industry doesn’t pull out of the slump it’s currently in, further cuts could be coming.

At-Risk Dividend No. 3: UPS (current yield: 7.8%)

In a case of “same song, different beat,” shipping and logistics giant UPS (UPS 0.43%) has seen a post-pandemic collapse in net income (down 50% in the last three years) and free cash flow (down 65%), as the pandemic-era delivery boom — for which UPS made major capacity upgrades — fizzled. Investors responded by sending shares down 57% from their highs.

With dividend payouts of $5.4 billion outstripping the company’s trailing cash flow of $3.5 billion, and tariffs expected to reduce shipping and delivery volume even further in the near term, the company’s $6.3 billion cash hoard may not last long enough to avoid a cut, although CEO Carol Tome is trying to. “You have our commitment to a stable and growing dividend,” she said on the most recent earnings call, but investors should remember that dividend policy can change without warning.

Safe Dividend: MPLX (current yield: 7.6%)

If high dividends are what you’re after, why pick UPS’ risky 7.8% yield when you could get a nearly identical 7.6% yield that’s much more secure? Midstream energy company MPLX (MPLX -0.48%) offers just such a payout.

MPLX operates pipelines, storage units, and shipping terminals for the oil and gas industry. As a master limited partnership (MLP), it gets favorable tax treatment in exchange for paying out almost all of its cash flow as dividends to investors. The only drawback to MLP ownership is some increased reporting at tax time if you hold your MLP shares in certain types of accounts.

Unlike the other three companies listed here, MPLX’s net income and free cash flow have only been growing over the past three years. Better yet, so has its dividend payout. But it still has plenty of dividend coverage, with its distributable cash flow currently 1.5x higher than its payouts, meaning MPLX has ample room to address a potential business slump without cutting its dividend.

That’s the kind of peace of mind you won’t get from LyondellBasell, Dow, or UPS right now, and why MPLX is a better choice for most dividend investors.

Near the end of July, storied chemical company Dow (DOW -1.68%) chopped its quarterly dividend in half from $0.70 per share to $0.35. To say investors weren’t happy about this would be understating the case; since then, Dow’s share price has fallen by almost 7% against the incremental rise of the S&P 500 (^GSPC -0.40%).

Dow is a longtime dividend player, and it’s refusing to give up on its payout entirely. Read on to find out the share count required to clock $1,000 worth of those lowered dividends yearly.

Why Dow is down

To cut directly to the chase, the answer is 715 shares. At the stock’s currently reduced price, that would mean a total spend of just under $16,824.

Image source: Getty Images.

A 50% dividend cut is hard to swallow, but this is mitigated by the resulting yield, which now stands at slightly under 6%. That’s extremely high for any stock on the exchange — all the more given Dow’s long history and prominence as a publicly traded company.

Yet this flags a high degree of risk. The chemical industry in general is struggling mightily, with weakening global demand and the lingering effects of oversupply that occurred near the start of the 2020s, among other factors.

Better times sorely needed

Dow’s slump is apparent, with second-quarter sales sliding by 7% year over year and the bottom line flipping to a non-GAAP (generally accepted accounting principles) adjusted loss of $0.42 per share from the year-ago profit of $0.68. With that kind of showing, the company is in batten-down-the-hatches mode. Factories have been shut and capital expenditures lowered to shore up finances.

The question is: When will the industry recover? There’s only so many cost-savings measures a producer can implement; customer demand must bounce back. With so much uncertainty, it’s not clear when that might happen.

So with Dow, if you’re a believer in the chemical business changing course sooner than later, this is an irresistible buying opportunity. For anyone more doubtful, though, the stock might be better off avoided.