VYM Yields 2.3% and Costs 0.04% a Year. Here's What That Trade-Off Buys You.

The Vanguard High Dividend Yield ETF (NYSEMKT: VYM) currently yields 2.3%, more than double that of the S&P 500. On top of that, its 0.04% expense ratio makes the fund one of the cheapest ways to own a diversified high yield equity ETF for your portfolio.

While this fund doesn't necessarily use the most targeted stock selection process, it does represent one of the more conservative ways to invest in high dividend stocks. By including more than 600 qualifying stocks that have above-average forecasted yields, it virtually eliminates the negative impact any one stock might have on the fund.

What a lot of investors may not realize is that the Vanguard High Dividend Yield ETF has an unexpected dividend growth history despite not filtering for that specifically. Its long-term dividend growth rate is a modest 5%, but the fund has managed to increase its total annual dividend paid for each of the past 15 years.

What do investors get for an investment in this fund? A steady, above-average fund with a surprisingly consistent record of annual dividend growth.

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The pros and cons of the Vanguard High Dividend Yield ETF's stock selection process

The Vanguard High Dividend Yield ETF tracks the FTSE High Dividend Yield Index, which screens a large universe of U.S. dividend-paying stocks and selects those with above-average forecasted yields, excluding real estate investment trusts (REITs). There are no filters for historical dividend growth or balance sheet quality. Yield is the sole selection criteria.

First, the risks. I've stated many times that I'm not the biggest fan of selecting stocks based solely on yield. It says nothing about a company's willingness or ability to pay a dividend and grow it over time. I prefer strategies that cross-check the yield component with a financial health screen. That helps ensure the dividend is sustainable over the long term and improve the chances that lower quality stocks get filtered out.

The Vanguard High Dividend Yield ETF doesn't utilize that.

On the plus side, the fund seems to use pure breadth as an alternative to a quality screen. By investing in several hundred companies instead of a hundred or fewer, the fund uses diversification as a means of mitigating idiosyncratic risk. It's not the way that I'd personally build a portfolio. I'd prefer to use a methodology that tries to screen out the bad apples instead of just minimize the impact of their inclusion.

Overall, the Vanguard High Dividend Yield ETF is an acceptable entry into the high-yield equity space. What it lacks in targeting criteria, it makes up with in diversification. This fund is probably best suited for yield seekers who want to capture an above-average dividend distribution without venturing too far out on the risk spectrum.

David Dierking has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Vanguard High Dividend Yield ETF. The Motley Fool has a disclosure policy.