A Dividend Fund Without Dividends?

07/20/2011 7:30 am EST

Focus: GLOBAL

John Heinzl

Reporter and Columnist, GlobeInvestor.com

What’s in a fund’s name? Read the fine print to avoid surprises, writes John Heinzl, reporter and columnist for Globe Investor.

Based on the name, I was enthusiastic when I came across the RBC Global Dividend Growth Fund. My first reaction was that I should invest in the fund to benefit from the geographic diversity and the beauty of dividends. But when I took a closer look, I realized the fund doesn’t actually pay any dividends. How could this be?—B.D.

This is a prime example of why investors need to read the fine print before they invest in anything.

I went to RBC’s Web site and checked the fund’s distribution history, and you’re right: The RBC Global Dividend Growth Fund didn’t pay a penny in dividends in 2010. This would certainly come as a surprise to anyone who bought the fund expecting to collect a rising income stream, as the name implies.

If you read the fund’s simplified prospectus, you’ll see that dividends aren’t even mentioned in the "investment objectives" section. Rather, the main objective is to "provide long-term capital growth" by investing in a "diversified mix of companies operating in various countries around the world across a range of sectors."

You have to read halfway through the "investment strategies" section to learn that companies are selected based on more than half-a-dozen criteria, one of which is "long-term prospects of initiating or growing their dividends."

The key phrase here is "initiating or growing." In other words, a company doesn’t have to pay a dividend now to make it into the fund; it only has to have the potential to pay a dividend down the road, which doesn’t do much good for an investor seeking income today.

Who Ate the Missing Yield?
The fund does hold many well-known dividend-growth names, including Coca-Cola (KO), McDonald’s (MCD) and IBM (IBM), as of March 31 according to Morningstar. The problem is, in 2010 the portfolio’s dividend yield was more than eaten up by the fund’s management-expense ratio of 2.2%.

"Income earned by the fund is distributed to investors at year end after fund expenses are paid," an RBC spokeswoman explained. "In 2010 there was no investment income remaining to pay a distribution."

The MER of 2.2% "compares to the median global equity fund MER of 2.54%," she added.

The fund has paid distributions in the past. In 2009, it paid 7 cents a unit in "interest," and in 2008 it paid 3 cents. In both cases, the net yield was less than 1%.

RBC classified these distributions as interest because foreign dividends are fully taxable for Canadians, and do not benefit from the dividend tax credit, the spokeswoman said.

In 2007, the fund paid a much more substantial 53-cent distribution, but it was all from capital gains generated when the manager presumably sold stocks at a profit. As the prospectus points out, "the fund’s portfolio turnover rate may be greater than 70%" annually—a style that may not suit income-seeking investors who favor a buy-and-hold approach.

Bottom line: Don’t invest in a mutual fund—or any other investment for that matter—based solely on the name. Read the prospectus and check the distribution history to make sure the fund matches your objectives and risk tolerance.

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