The Dividend ETF Bogleheads Won’t Stop Recommending, Yet Most Retirees Have Never Heard Their Advisor Say the Ticker

A lot of advisors out there use ETFs, but what gets recommended to retail clients is not always necessarily the best ETF available. There is an entire ecosystem of ETF wholesalers whose job is to market products directly to advisors. That means lunches, conferences, golf outings, glossy pamphlets, and polished backtests showing why a particular strategy deserves a place in client portfolios.

So if somebody from a large asset management firm sits down with your advisor over a Red Lobster dinner, hands over a fancy pitch deck and a bunch of performance charts, and then the next day you suddenly get recommended an ETF you have never heard of before, well, there is a decent chance that is what happened.

Personally, I dislike this dynamic because it often skips over a lot of great funds that DIY retail investors swear by but clients working through advisors barely ever hear mentioned. One good example is the Schwab U.S. Dividend Equity ETF (NYSEARCA: SCHD).

Even among the usually total-return-focused Boglehead crowd, SCHD has become an extremely popular ETF for investors seeking a large-cap value and income tilt. A big reason is cost. SCHD charges just a 0.06% expense ratio. On a $10,000 investment, that works out to just $6 a year in fees.

But beyond the low expenses, there are a few other characteristics that make SCHD particularly attractive. And no, it is not really about the dividend yield itself, even though the current 3.31% 30-day SEC yield is certainly respectable. At the end of the day, total return is still what matters most. What I really like about SCHD is the quality and value factor exposure hidden.

What Is SCHD?

Before getting into why I like the ETF, it helps to understand how it actually works. SCHD is a passive ETF that tracks the Dow Jones U.S. Dividend 100 Index. Importantly, this is not just another market-cap-weighted benchmark where the largest stocks automatically dominate the portfolio. Instead, it uses a fundamentally weighted process.

The strategy begins with a screen requiring eligible companies to have paid dividends for at least 10 consecutive years. From there, qualifying stocks are evaluated using a composite ranking system based on four variables: free cash flow to total debt, return on equity, dividend yield, and five-year dividend growth rate.

The top 100 companies that survive those screens are included in the ETF. The portfolio is rebalanced quarterly, while the index itself is fully reconstituted annually. Reconstitution simply means new qualifying companies get added while those that no longer meet the standards are removed.

Because of this process, SCHD naturally has a higher turnover ratio of 43.17%. However, unlike mutual funds, ETFs have a structural advantage here. Shares are created and redeemed in kind through authorized participants, which helps SCHD avoid many of the capital gains distributions mutual funds often pass onto investors.

Why I Like SCHD

Again, what attracts me to SCHD is not primarily the dividend yield itself, nor even the low fees. What I really like is the exposure the screen creates underneath the surface. In practice, SCHD functions almost like a quality and large-cap value factor ETF disguised as a simple dividend strategy.

Take valuation metrics as an example. As of the end of April, SCHD traded at just 18.98 times earnings and 10.83 times cash flow, both materially lower than the broader S&P 500 index. Yet despite those lower valuations, the ETF still maintains very strong quality metrics, including an average return on equity of 26.64%, which is excellent. And this is one of those years where having that quality and value tilt has paid off. Year-to-date through the end of April, SCHD delivered a 17.9% total return at net asset value.

I also appreciate the ETF’s tax efficiency. Most of SCHD’s distributions tend to qualify as qualified dividends because the methodology excludes real estate investment trusts, or REITs, which often generate less tax-efficient income streams. So the next time your advisor starts pitching some expensive dividend strategy that his wholesaler recommended to him over dinner, ask him about SCHD first. You might be surprised how rarely it comes up.