If you’ve got a significant sum that you’d be willing to put to work for the next 10 years or more, it might make sense to consider the potential passive income (think dividends, interest, royalties, or distributions) it may be able to provide in any given year.
Undoubtedly, if you’re still more than a decade away from your expected retirement or if you’ve got no plans on retiring at all, it still makes more sense, at least in my humble opinion, to prioritize the total returns you’ll get, rather than the income you’ll receive by cranking up the yield. When it comes to total returns, we’re talking about the sum of capital gains and dividends (or distributions and interest).
Arguably, for those who are just going to reinvest the dividends trickling in every quarter or so, it makes more sense to focus on capital and dividend appreciation over yield.
In any case, this piece will consider TFSA (Tax-Free Savings Account) funds, which will take the effects of taxation out of the question unless, of course, we’re talking about the 15% U.S. dividend withholding tax that Canadian investors will get dinged before the cash hits their portfolio.
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Don’t overextend your risk profile with such a huge sum of TFSA cash
So, whether you’ve got $2,500 or $25,000 to put to work, I do think that it’s worth looking at the traits beyond just yield. Most notably, dividend growth and capital gains are more compelling attributes for those with more yield flexibility. If you’re willing to settle for a 2-4% yield instead of a 6-8% yield, odds are that the capital gains side of the equation and the dividend growth might just lead to better total returns over an extended period of time.
That is, of course, unless you time your entry into an artificially high yielder with precision and ride a rebound that allows you to lock in the swollen yield while enjoying a hefty recovery. For most investors who don’t want to take on bigger risks for a shot at bigger gains with a hefty sum (do remember that capital losses can’t offset gains in non-registered accounts), though, I think playing it a bit cautiously is the better move for most.
In any case, let’s look at an extreme example with a name like Telus (TSX: T), while it yields 9.9%. Telus might be a blue chip, but shares are under serious pressure, the dividend growth is paused, and it’s unclear what the next path forward is as management scrambles to turn the tide.
Based on such a yield, a $25,000 sum would be just shy of $2,500 per year. And in a TFSA, that’s tax-free. Given that Telus shares are a falling knife, though, don’t ignore the capital losses, which could more than nullify the big payout and result in a negative total return for any given year. In the past year, T’s stock has been down just over 17%. The dividend softens the blow, but still, investors must weigh the risks.
The case for reliability with the VDY
Personally, I’d stick with a Vanguard FTSE Canadian High Dividend Yield Index ETF (TSX: VDY), which yields closer to 3.5%. With a diverse mix of Canada’s blue-chip dividend payers and a good amount of appreciation and dividend growth potential from the top weightings, I’d be content collecting the relatively modest $875 or so from the ETF instead of “chasing” yield in riskier corners of the market.
Also, with the VDY, you’re getting a hefty dose of financials and energy, two of the dividend-growthiest parts of the Canadian market. In terms of reliable cash flow, the VDY ought to be a one-stop shop, in my view, for income, long-term gains, value, and keeping management expense ratios low (Vanguard does this very well).
