Reinvestment, where the generated interim income is reinvested back into the investment, is known to increase long-term returns. However, there are investors who may like to receive small chunks of regular income at periodic intervals, to meet their specific needs. Periodic coupon payment from bonds and regular dividend from stocks and mutual funds offer such necessary regular income option from investments.
This article discusses the top mutual funds, which are known to pay dividends regularly, assisting the investor in getting periodic payments.
How Do Mutual Funds Pay Dividends?
Mutual funds invest in stocks, which pay dividends. The dividend from these constituent stocks is received at different times. The funds following a dividend reinvestment plan, reinvest the received dividend amount back into the stocks. The others, which follow the dividend payment plan, keep aggregating the dividend income over a month/quarter/six-month period, and then make a monthly/quarterly/semi-annual dividend payment to the fund holders. (For more, see: How Mutual Funds Pay Dividends: An Overview.)
A fund pays income, after expenses. If a fund is getting regular yield from the dividend paying constituent stocks, those expenses can be covered (fully/partially) from dividend income. Depending on the local laws, dividend income may be tax-free, which adds to investor’s benefits.
Investors should also note that companies are not obliged to make dividend payments on their stocks. Investors looking for dividend income may find dividend paying mutual funds a better bet that individual stocks, as the latter aggregates the available dividend income from multiple stocks.
Top Dividend Paying Mutual Funds
Here are the top mutual funds that have been paying the regular dividend with high dividend yields. A useful benchmark for gauging the dividend paying performance of a fund is to compare the mutual fund yield against the yield of the benchmark S&P500 index, which is estimated to be around 2% for 2015. The trailing twelve months (ttm) fund yield values (as of Sept. 30, 2015) are included for each fund mentioned below.
1. Vanguard High Dividend Yield Index Fund (VHDYX): VHDYX is an index fund that attempts to replicate the performance of the FTSE High Dividend Yield Index. This index contains stocks of companies, which usually pay higher than expected, or greater than average, dividends. Being an index fund, VHDYX replicates the benchmark stock constituents in the same proportion. This fund has maintained a consistent history of paying quarterly dividends since inception. Being an index fund, this has one of the lowest expense ratio of 0.18%, and the fund yield (ttm) as 3.29%. It may be a perfect low-cost fund for anyone looking for higher than average dividend income (Fund Prospectus).
2. Vanguard Dividend Appreciation Index Fund (VDAIX): VDAIX is an index fund, which attempts to replicate the performance of the benchmark NASDAQ US Dividend Achievers Select Index. This unique index consists of stocks that have been increasing the dividend payouts over time. Being an index fund, VDAIX replicates the benchmark stock constituents in the same proportion. This fund has maintained a consistent history of paying quarterly dividends since inception. Being an index fund, this has one of the lowest expense ratios of 0.2%, and the fund yield (ttm) is 2.33 %. (Fund Prospectus)
3. Columbia Dividend Opportunity Fund (INUTX): INUTX offers a diversified portfolio of holdings that include common stocks, preferred stocks, derivatives, and structured instruments for both U.S., and foreign securities of varying market capsized companies. The primary criteria for selection of securities are the dividend payment. It has an expense ratio of 1%, and dividend yield (ttm) of 3.17%. It has been paying regular dividends each quarter. (Fund Prospectus)
4. Vanguard Dividend Growth Fund (VDIGX): This fund primarily invests in a diversified portfolio of large-cap (and occasionally mid-cap) U.S. and global companies, which are undervalued relative to the market and have the potential for paying dividends regularly. The fund research attempts to identify companies that have high earnings growth potential leading to more income, as well as the willingness of company management to increase dividend payouts. It has the yield (ttm) as 1.95%. With an expense ratio of 0.32%, this fund has maintained a consistent history of paying quarterly dividends since inception. (Fund Prospectus)
5. T. Rowe Price Dividend Growth Fund (PRDGX): Based on the principle that increasing dividends over a period are positive indicators of a company’s financial health and growth, PRDGX looks to invest in large to mid-cap stocks, which have above-average growth in earnings and dividends. It invests in both U.S. and global companies across diversified industry sectors, although the latter’s share usually remains in the single digits. Though the current yield (ttm) of 1.73% may be lagging behind Standard&Poor's 500 Index yield of 2%, this fund offers a good mix of growth with dividend income. Being an actively managed fund, it has expense ratio of 0.65% and has maintained a consistent history of quarterly dividend payment (Fund Prospectus)
6. Federated Strategic Value Dividend Fund (SVAAX): Not happy with quarterly dividends and want more frequent payments? SVAAX offers you monthly dividends. Investing in large and mid cap US and foreign stocks and American depositary receipts (ADRs), this fund selects companies, which have high growth potential for future dividend payouts, and dividend-oriented value characteristics. It has an expense ratio of 1.06%, and the fund yield (ttm) as 3.13%. (Fund Prospectus)
7. Vanguard Equity Income Fund (VEIRX): This fund focuses on large and mid cap domestic U.S. companies that are slow-growth but high-yield companies. The fund attempts to pick undervalued companies that pay above-average dividend income. This fund has been paying regular quarterly dividends. Interestingly, this fund has a history of paying higher payouts particularly in the month of December (although sporadic), as visible from dividend payout history. It has an expense ratio of 0.2%, and the fund yield (ttm) as 2.96%. (Fund Prospectus)
8. Neuberger Berman Equity Income Fund (NBHAX): This fund invests in high dividend paying equities that include common stocks, REITs, convertible preferred stock, convertible securities, and derivative instruments like call and put options, with an aim to generate a current yield that is better than the average yield of the benchmark S&P 500 Index. It has the yield (ttm) as 2.60%. It pays quarterly dividends (dividend history) and has an expense ratio of 1.05%. (Fund Prospectus)
The Bottom Line
Regular payment of dividends essentially takes money out of the company’s working capital. Instead, the company may have generated higher returns by reinvesting the dividend money in its business, leading to the appreciation of stock prices. Additionally, dividend payment also hits the benefits of compounding. Investors looking for regular dividend income should keep these limitations and effects in mind, before going for investing in high dividend paying mutual funds.
Disclaimer: The author was not holding any of the mentioned funds at the time this article was written.