A high dividend yield alone does not tell me much about the quality of a business. Sometimes the yield is high because the share price has collapsed. Other times, the company is paying out an unsustainable percentage of its free cash flow or even borrowing money to maintain the dividend.
Dividend growth tells you something different. A company that increases its payout year after year generally needs growing earnings and free cash flow, a healthy balance sheet, and management willing to commit more cash to shareholders. Maintaining that record through different economic environments becomes increasingly difficult.
That does not automatically make every dividend grower a good investment. Valuation still matters and dividends can always be cut. But if you want to screen for established Canadian businesses with a demonstrated history of returning more cash to shareholders, dividend growth is a useful place to start.
You could research these companies individually, or you could get exposure to 95 of them through a single exchange-traded fund (ETF): the iShares S&P/TSX Canadian Dividend Aristocrats Index ETF (TSX: CDZ).
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What is CDZ?
CDZ tracks an index of large, established Canadian companies that have increased their ordinary cash dividends every year for at least five consecutive years. That currently produces a portfolio of 95 dividend growers.
The sector composition also looks distinctly Canadian. Energy represents approximately 21% of the portfolio, followed by financials at 19%, industrials at 15%, and utilities at 10%.
That gives investors exposure to several areas where Canadian companies have historically developed strong dividend cultures, including banks and insurers, pipelines and energy producers, transportation companies, and regulated utilities.
CDZ is still a stock portfolio, so investors should expect volatility and occasional dividend cuts among individual holdings. The advantage is that you’re spreading those risks across dozens of companies rather than depending on one or two stocks to maintain their payouts.
Historically, that approach has worked reasonably well. CDZ has delivered a 12.4% annualized total return with distributions reinvested over the trailing 10 years.
The fineprint
CDZ isn’t primarily a high-yield strategy. It currently offers a 3% trailing 12-month distribution yield, with distributions paid monthly. The bigger attraction is the combination of current income and exposure to companies with histories of growing their payouts.
There is one downside I don’t particularly like: the cost. CDZ charges a 0.66% management expense ratio (MER), which is considerably higher than many broad-market Canadian index ETFs.
That fee is deducted internally and compounds against your returns every year you own the ETF. Over a long investment horizon, I would want to be comfortable that CDZ’s dividend-growth methodology is worth paying for.
Still, for investors who specifically want a diversified portfolio of Canadian dividend growers without researching 94 companies individually, CDZ provides a convenient way to get it.
