When you see the phrase “dividend growth” in a mutual fund’s name, you better look under the hood. Not all rising-dividend funds are built the same.
Although prospectuses generally give managers plenty of wiggle room, the stewards of most big rising-dividend funds stick close to the letter of their charters. For example, of the 115 stocks held recently by T. Rowe Price Dividend Growth (symbol PRDGX), 98% pay a dividend. All 49 of the stocks in the portfolio of Vanguard Dividend Growth (VDIGX), a member of the Kiplinger 25, share the wealth with stockholders. As the names of these funds indicate, the managers look for companies that pay dividends now and are likely to raise them in the future.
Now, consider Fidelity Dividend Growth (FDGFX). Seven of the fund’s 25 biggest holdings stiff shareholders. And at last report, 62% of the fund’s $7.8 billion in assets were in securities that pay a dividend or interest (the fund owns a few bonds). Clearly, this is a different sort of rising-dividend fund.
Larry Rakers, who took over its management in September 2008 after six years in charge of Fidelity Balanced (FBALX), explains Dividend Growth’s evolution this way: “You open up my prospectus and it says, ‘Thou shalt pick stocks that pay a dividend or that Fidelity thinks someday could pay a dividend.’ But how does Fidelity pay Larry? They pay Larry on the basis of total shareholder return, so I’m driving my fund to maximize total return.”
Rakers says he studied the performance of stocks that pay high dividends with those that pay no dividends at all and found that over long periods, the dividend payers do not outpace the nonpayers. So he talked about the situation with Fidelity’s lawyers and decided that Dividend Growth would place at least 65% of its assets in income-generating securities—primarily dividend-paying common stocks but also convertible bonds and straight bonds. The converse, obviously, is that he can put up to 35% of assets in nonpayers—hence, the presence of such companies as Cisco Systems (CSCO), Google (GOOG) and something called Petrohawk Energy (HK) among Dividend Growth’s top 25 holdings recently.
Beyond dividends, Rakers’s process focuses on what he calls EVE—earnings, valuation and the economy. Says Rakers: “Two things matter for stocks—the financial fundamentals of the companies and what you pay for them. But early in my career, the economy slapped me around a little, so I think it’s important to look at the economic backdrop as well.”
In particular, Rakers looks at the index of leading economic indicators. He fine-tunes his portfolio depending on what the index suggests about the future course of the economy. When he took over Dividend Growth’s reins in 2008, he positioned the fund for a stronger economy, a decision that resulted in a miserable fourth quarter (the fund plunged 27%, compared with a decline of 22% for Standard & Poor’s 500-stock index), but that set up a stellar 2009 (the fund rose 51%, 25 percentage points ahead of the index). Year-to-date through June 21, Dividend Growth gained 1.6%, beating the S&P 500 by one point.
Rakers’s reading of today’s tea leaves suggests that the economy will continue to grow. Until recently, he adds, he was moving from a strategy of investing during a recovery to a strategy of investing during an expansion. That meant positioning the fund a bit more conservatively by raising its dividend yield and putting more money into larger companies. But as the S&P 500 was in the midst of falling 14%, says Rakers, “I stopped this process and actually unwound it a little because I saw a lot of very cheap midcap names with low or no dividend yield.”
With more than 500 stocks in his fund, Rakers relies heavily on Fidelity’s army of about 100 stock analysts. Every weekday morning he gets a fat report containing information on about 400 companies. All told, Rakers says, he “stalks” about 2,300 stocks and has a “recipe” —the price to buy and the price to sell—for each one. “The recipe changes as the story changes and is a function of the outlook for a company and its future growth rate,” says Rakers.
So, for example, he might invest in the stock of IBM (IBM), “a boring company with a long track record,” when its price-earnings ratio is 20% below the overall market’s and sell when the P/E is 10% above the market’s. “A computer doesn’t pick the valuation range in the recipe. Larry does. And that’s how Larry gets to keep his job.”
Whether you should hand over your money to Rakers depends on the kind of fund you want. For now, we prefer the more sedate approach of Vanguard’s offering. But if you want a fund that is somewhat more flexible, Fidelity Dividend Growth is a defensible choice.
The fund’s initial minimum is $2,500 for regular accounts and $500 for retirement accounts. The current expense ratio is a low 0.62%. Fidelity, to its credit, adjusts the fund’s management fee based on performance, so the expense ratio will rise if Dividend Growth outpaces the S&P 500 over a three-year period.
Alaska Airlines to Buy Hawaiian: Get Bonus Miles Now
How to use the Alaska Airlines credit card and frequent flyer program to save on trips to Hawaii, Alaska and beyond.
By Ellen Kennedy Published
11 Reasons to Consider a 1031 Exchange
Deferring capital gains taxes might be at the top of the list, but growing your portfolio and your wealth and helping with estate planning are also compelling reasons.
By Daniel Goodwin Published
7 Stocks to Give Your Grandchildren
A pick of stocks to give your grandchildren as long-term gifts.
By Dan Burrows Published
How to Find the Best 401(k) Investments
Many folks are likely wondering how to find the best 401(k) investments after signing up for their company's retirement plan. Here's where to get started.
By Deborah Yao Published
How to Master Index Investing
Index investing allows market participants to use baskets of stocks and bonds to build the best portfolio to meet their goals. Here's how it works.
By Nellie S. Huang Published
How to Find the Best Vanguard ETFs
Investors looking for the best Vanguard ETFs would be wise to follow the philosophy of the asset manager's founder, John Bogle.
By Jeff Reeves Published
Donor-Advised Funds: A Tax-Savvy Way to Rebalance Your Portfolio
Long-term investors who embrace charitable giving can easily save on capital gains taxes by donating shares when it’s time to get their portfolio back in balance.
By Adam Nash Published
Choosing Between Look-Alike ETFs and Mutual Funds
If you're trying to choose between ETFs and Mutual Funds, some factors to help you decide are how you trade and the type of account you plan to use.
By Nellie S. Huang Published
How to Pick the Best Robo Advisor For You
Kiplinger's guide to the best robo advisors to fit your needs.
By Kim Clark Published
The 5 Best Actively Managed Fidelity Funds to Buy Now
mutual funds In a stock picker's market, it's sometimes best to leave the driving to the pros. These Fidelity funds provide investors solid active management at low costs.
By Kent Thune Last updated