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Wednesday, June 5, 2013 - 10:00

Forget Chasing Hot Stocks -- Keep It Simple With These Dividend ETFs

Wednesday, June 5, 2013 - 10:00am

We have all experienced the guy at the party who is always talking about his stock-picking skills. He will brag to anyone who will listen how he bought one stock or another near the lows, making a killing.

I call this type of investor a "hot-stock chaser."

Hot-stock chasers are always looking for the next big thing in the market. They jump aboard whatever is moving or whatever is supposed to be the next big thing. Jim Cramer is their hero, and their TV is always tuned to CNBC for the next sizzling tip. Jumping from stock to stock in a manic effort not to miss the stock of the day, week or month, hot-stock chasers are never satisfied.

When you first meet a hot-stock chaser, all you will hear about are his winning investments. Dig a little deeper, and you may discover that the hot-stock chaser also has a long history of money-losing investments.

This is due to the tendency of the professional money to begin taking profits at exactly the moment a stock becomes ultra-popular. Sometimes hot-stock chasers do catch a solid upward move and earn substantial profits -- but it's more often akin to a crapshoot. Some stocks perform as expected, but many more fizzle out before anyone profits.

As you can see, being a hot-stock chaser is simply not a wise strategy for a long-term investor. It has been demonstrated over and over again that investing success is built upon having a diversified basket of solid, dividend-producing stocks.

In fact, the majority of stock market gains over the past several decades are attributable to dividends. Readers of Amy Calistri, Carla Pasternak and other experts here at StreetAuthority are well aware of the importance of dividend-producing stocks when it comes to building wealth. That strategy takes patience, and it can be a slow process, but it beats chasing hot stocks, hands down.

If you are just starting out with dividend investing or are not sure how to properly diversify your stock portfolio, there are several exchange-traded funds (ETFs) that do the diversification for you. These ETFs can be a great way to launch a well-diversified, dividend-earning portfolio. They are also a smart way for established investors to add a professionally managed diversified package of stocks in an easy, effective manner.

The ETFs best suited for a dividend portfolio are iShares Dow Jones Select Dividend Index Fund (NYSE: DVY) and the SPDR S&P 500 Dividend ETF (NYSE: SDY).

The Dow Jones Select ETF is up nearly 13% this year alone and the S&P 500 Dividend ETF boasts an advance of more than 16% over the same time.

Not straying from the StreetAuthority's high-yield methodology, the DVY ETF follows the Dow Jones Select Dividend Index. This index excludes any company with any negative dividend actions over the past five years. The SDY ETF tracks the S&P 500 High Yield Dividend Aristocrat Index, which requires companies to have increased dividends every year for the past quarter-century.

Unfortunately, as a result of these ETFs' incredible appreciation, their dividend yield has declined to less than 3%. Looking at the technical picture, both DVY and SDY have pulled back from their highs, finding support at the 50-day simple moving average. This pullback into my value buy zone has set up perfect technical buy opportunities in both of these dividend-paying ETFs.

Risks to Consider: The primary risks with these dividend-paying ETFs is simply general market risk. While they both meet the criteria for a diversified, dividend-paying stock package, both follow the major indexes. This means both ETFs will suffer further should the market, as a whole, begin a sustained pullback.

Action to Take --> I like both of these ETFs as long-term holds. However, there is a chance that the market will experience a substantial pullback in the near future. I strongly suggest tight stops at $63 for DVY and $65 for SDY to protect against the possible broad market selling.

P.S. -- If you want to know about one of the most effective dividend strategies around, then you have to find out about the "Dividend Trifecta." Simply put, it's a three-part approach to dividends that multiplies the effectiveness of every dollar you invest. The plan is specifically engineered for people who want to retire sooner or for those who would like to get a steady stream of extra income now. Go here to learn more...

David Goodboy does not personally hold positions in any securities mentioned in this article.
StreetAuthority LLC does not hold positions in any securities mentioned in this article.