Thanks to their low costs, easy access, and sophistication, exchange-traded funds (ETFs) have steadily taken inflows for decades. As of Q4 2022, BlackRock estimates that ETFs make up 12.6% of equity assets in the U.S. Today, there are sector-based ETFs and even ETFs that focus on a specific type of developing technology or industry.
With so many options available, BlackRock forecasts the U.S. ETF industry to surpass $13 trillion in assets under management (AUM) by the end of this year and possibly $25 trillion in AUM by the end of 2027.
Investors looking for ETFs that produce passive income have come to the right place. The Vanguard Utilities ETF (VPU 0.64%), iShares Global Infrastructure ETF (IGF -0.17%), and iShares Core High Dividend ETF (HDV 0.44%) are three foundational ETFs with exposure to top stocks across a variety of sectors. Here, three Motley Fool contributors outline what makes each ETF a great buy now.
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A high-quality yield you can count on, no matter the market cycle
Daniel Foelber (Vanguard Utilities ETF): The Vanguard Utilities ETF isn't flashy. But it has many qualities that may appeal to a risk-averse investor focused on passive income.
The fund tracks the performance of the utility sector, which is stable, less-volatile relative to the S&P 500. It also has a higher yield than the S&P 500. Vanguard Utilities ETF has a yield around 3% and consists mostly of regulated electric utilities.
These businesses aren't fast growers because they work closely with government agencies to set reasonable prices for customers. However, many of these stocks aren't expensive.
Another advantage of the Vanguard Utilities ETF is its low expense ratio. At just 0.10%, investors pay very little for Vanguard's services. The fund is also well diversified, which helps limit the risk of being overly invested in a single utility.
Although regulated electric utilities tend to be safe, they are prone to significant risks, as we saw with the bankruptcy of Pacific Gas & Electric in 2019. A basket of utilities lowers the risk while unlocking an attractive dividend yield.
The largest holding in The Vanguard Utilities ETF, NextEra Energy, has a track record for aggressive renewable energy investment and market outperformance. However, many other utilities have caught on and have implemented their own renewable energy strategies. For example, Dominion Energy is backing a $9.7 billion offshore wind energy project.
Renewable energy provides a catalyst for long-term growth for these utility companies. And although NextEra Energy has proven that onshore wind and solar projects are profitable and cost-competitive with fossil fuels, offshore wind remains a much more speculative and costly energy source.
A single stock tends to offer more potential upside than a balanced ETF. And while some investors may prefer to pick one utility over another, a safer approach is to go with the Vanguard Utilities ETF as a foundational holding and then build individual positions from there based on personal preference.
A genuinely global infrastructure ETF for investors
Lee Samaha (iShares Global Infrastructure ETF): Instead of trying to pick winners from a crowded field of infrastructure-related stocks, it makes sense to consider buying an infrastructure ETF that gives you diversified exposure and a 2.5% dividend yield to boot.
A genuinely global ETF, iShares Global Infrastructure ETF has slightly more than 58% of its assets in international holdings. The ETF gives investors access to utilities (about 41% of assets), including gas, water, electricity, and renewable energy. Transportation (about 38%) gives investors exposure to airport services, highways/railways, and marine infrastructure. Finally, energy (about 20%) offers exposure to oil and gas storage and transportation.
The ETF aims to benefit from increasing expenditure on infrastructure in a rapidly urbanizing world -- in other words, the increasing mass of people moving to live in cities, not least in the developing world, and the need for investment to build the infrastructure to support it. Alongside urbanization, there's a need to maintain and update critical infrastructure in the developed world, as evidenced by the $1.2 trillion Infrastructure Investment and Jobs Act in the U.S.
The ETF won't shoot the lights out in terms of performance, but it will offer a stable, diversified way to benefit from solid megatrends in the economy that won't go away, even in a recession.
A conservative approach to collecting big passive income
Scott Levine (iShares Core High Dividend ETF): Picking up shares of a high-yield dividend stock is a great way to generate strong passive income. Of course, there are inherent risks with investing in a single equity. A high-yield ETF offers a great alternative for those looking to reduce the risks of investing in a single high-yield stock. And for those interested in lowering their risk even further, the iShares Core High Dividend ETF, with its forward dividend yield of 3.5%, is an especially attractive option.
Unlike ETFs that have exposure to a particular industry, the iShares Core High Dividend ETF has exposure to multiple industries -- an appealing quality in that it mitigates the risk of a downturn in a particular sector.
Take the energy industry, for example. Of the top three holdings in the iShares Core High Dividend ETF, two are energy stocks. As of Feb. 17, ExxonMobil and Chevron accounted for 9.5% and 5.6%, respectively, of the fund's holdings. Should energy prices plummet and remain low for a protracted period of time, ExxonMobil and Chevron could reduce their dividends; however, the ample exposure to other industries suggests that the ETF's dividend wouldn't be slashed.
Another way in which the iShares Core High Dividend ETF offers a reduced risk profile is by using a conservative screening method to help identify potential holdings. According to BlackRock, the manager of the ETF, the screen looks to "increase exposure to companies with healthy balance sheets" and "reduce exposure to companies with lower margins of safety."
Any potential investors in an ETF can't say they've satisfied their due diligence without looking at the expense ratio. A high yield is great, but it means little if most of the distribution is coming at the cost of a high maintenance fee. Fortunately, in this case, there's no cause for concern; the iShares Core High Dividend ETF has an extremely reasonable expense ratio of 0.08%.