The stock market recently entered a correction phase, which is a decline of 10% or more from the recent peak. The S&P 500(SNPINDEX: ^GSPC) just hit that level on Thursday, while the Nasdaq Composite(NASDAQINDEX: ^IXIC) has now tumbled more than 14% from the top. Many stocks are down even more.
Stock market volatility can be unnerving. While investors can't completely insulate their portfolio from volatility, they can take steps to lessen the blow. One way to do that is by investing in dividend stocks, which have historically been less volatile than the broader market.
Buying an exchange-traded fund (ETF) is a great way to broadly invest in dividend stocks. ETF giant Vanguard offers several top options, including the Vanguard High Dividend Yield Index Fund ETF(NYSEMKT: VYM), Vanguard Utilities Index Fund ETF(NYSEMKT: VPU), and Vanguard Dividend Appreciation Index Fund ETF(NYSEMKT: VIG). As the chart shows, this ETF trio hasn't gotten hit as hard as the broader market during the current correction:
The Vanguard High Dividend Yield ETF aims to measure the investment return of stocks with high dividend yields compared to the broader market. Companies with higher-yielding dividends supply investors with a higher base return, which can help provide a bit more cushion from volatility.
The ETF currently has a 2.5% dividend yield. That's nearly double the S&P 500's level (around 1.3%).
Over the long term, stocks with higher dividend yields tend to outperform the market more often. According to data from Wellington Management and Hartford Funds, companies with higher dividend payout ratios (which often signifies a higher yield) outperformed the market 70% of the time from 1930 through 2023. That was a higher percentage than dividend stocks with lower payout ratios. We're seeing that outperformance during the current correction as the value of higher-yielding dividend stocks have held up better than the broader market.
Generating income and stable returns
The Vanguard Utilities ETF aims to track the performance of utility stocks. These companies, which provide power, gas, water, and other services to consumers and businesses, tend to generate very stable earnings. Demand for these essential services is typically very steady. Meanwhile, government regulators set pricing.
That stability enables utilities to pay higher-yielding dividends. For example, the Vanguard Utilities ETF currently yields almost 2.9%. That higher-yielding payout provides investors with a very solid base return.
Meanwhile, utilities offer solid growth prospects. Power demand is surging due to catalysts like electric vehicles, the electrification of everything, and artificial intelligence (AI) data centers. That's enabling utilities to build more renewable energy generating capacity, natural gas power plants, and electric and natural gas transmission and distribution infrastructure. Those investments are growing the sector's earnings, which should enable these companies to increase their higher-yielding dividends in the future.
These dividend stocks yield higher returns
Higher-yielding dividend stocks can be excellent long-term investments. However, the best dividend stocks are those that grow their payouts. They have historically produced the highest total returns with the lowest levels of volatility.
Since 1973, dividend growers and initiators have delivered a 10.2% average annual return with a 0.89 beta (a common measure of volatility), according to data from Ned Davis Research and Hartford Funds. That's much better than companies with no change in their dividend policy (6.7% return and 1.02 beta), and an Equal-Weighted S&P 500 Index (7.7% return and 1.0 beta).
The Vanguard Dividend Appreciation ETF focuses on companies with records of growing their dividends each year. While the fund's holdings have a lower dividend yield (currently 1.7%), they have excellent dividend growth track records.
For example, the fund's top holding is Broadcom(NASDAQ: AVGO), at 5.3% of its assets. The semiconductor and software giant currently has a below-average dividend yield of 1.2%. However, Broadcom really shines in its ability to increase its dividend. It raised its payment by another 11% late last year, extending its annual dividend growth streak to 14 years. The company has grown its payout by a jaw-dropping 8,330% during that period.
Dividend income can help cushion the impact of volatility
Stock market volatility can be difficult for many investors to stomach. While you can't eliminate it from your portfolio, adding more dividend stocks can lessen its impact.
Vanguard makes that easy to do with ETFs like Vanguard High Dividend Yield ETF, Vanguard Utilities ETF, and Vanguard Dividend Appreciation ETF. These ETFs will provide your portfolio with more dividend income, less volatility, and the potential to earn higher returns over the long term.
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Matt DiLallo has positions in Broadcom. The Motley Fool has positions in and recommends Vanguard Dividend Appreciation ETF and Vanguard Whitehall Funds - Vanguard High Dividend Yield ETF. The Motley Fool recommends Broadcom. The Motley Fool has a disclosure policy.
