1 ETF I Wouldn't Touch With a 10-Foot Pole

Exchange-traded funds (ETFs) are products that Wall Street developed, in part, as a new way to earn management fees from customers. That's an important dynamic to remember because sometimes ETFs can be deceiving, especially if you buy them based solely on their names.

This is the case with the WisdomTree U.S. Quality Dividend Growth Fund ETF (NASDAQ:DGRW). If you want an ETF filled with quality dividend stocks, you'll be better off with the Schwab US Dividend Equity ETF (NYSEMKT:SCHD). Here's why.

The WisdomTree U.S. Quality Dividend Growth Fund ETF barely looks at dividends

The WisdomTree U.S. Quality Dividend Growth Fund ETF starts its selection process by looking at the WisdomTree U.S. Dividend Index. That's a fancy name, but it is just a list of U.S. stocks that pay dividends. After that point, the ETF looks at a combination of growth (based on long-term earnings growth expectations) and quality (three-year historical averages for return on equity and return on assets) factors to create a list of 300 stocks.

Image source: Getty Images.

Or, to put it another way, the biggest role dividends play in the construction of this particular WisdomTree ETF's portfolio is that included companies have to pay one. That's the dividend bar that stocks have to meet, and it's a low one. Based on that, it seems like a stretch to put the words "dividend" and "growth" together in the name.

The yield, by the way, is a miserly 1.6%, which is only a touch higher than the 1.3% average from S&P 500 stocks. That's not surprising, given how little emphasis the ETF places on dividends. And for that tiny yield, you get to pay a fairly large 0.28% expense ratio.

The Schwab US Dividend Equity ETF does a better job on growth and yield

In comparison, dividend growth is the very foundation of the Schwab US Dividend Equity ETF. It only looks at companies that have increased their dividends annually for at least a decade (with the exclusion of real estate investment trusts). Then a composite score is created that looks at cash flow to total debt, return on equity, dividend yield, and the five-year dividend growth rate. Note that dividend growth is still a key factor, along with yield, even after the original stock universe is created. But the really interesting inclusions are metrics to examine financial strength (cash flow to total debt) and company quality (return on equity).

What the Schwab US Dividend Equity ETF is attempting to do is find a balance between company quality and dividend yield, with dividend growth thrown in for good measure. And it achieves that goal fairly well, with a dividend yield of 3.6%. Meanwhile, shareholders pay a tiny 0.06% expense ratio. If you are looking for "quality dividend growth" stocks, the Schwab US Dividend Equity ETF's approach is likely to get you much closer to the mark than the WisdomTree U.S. Quality Dividend Growth Fund ETF.

DGRW data by YCharts.

Does that mean that the WisdomTree U.S. Quality Dividend Growth Fund ETF is a bad ETF? No, not by any means. It has outperformed the Schwab US Dividend Equity ETF since roughly the start of 2023. But that highlights a key point. The WisdomTree U.S. Quality Dividend Growth Fund ETF is a growth ETF that only picks from dividend-paying stocks, so technology-related sectors make up nearly a third of the portfolio. The Schwab US Dividend Equity ETF is trying to find high-quality stocks with attractive yields, leading to technology making up just under 9% of its portfolio.

Technology, particularly some key chip makers, has dramatically outperformed of late. But technology isn't a particularly high-yield sector most of the time. Sure, the dividends may be "high-quality," but the yields are miserly.

Overall, if you are looking for dividend stocks, the WisdomTree ETF is probably going to leave you just a little flat compared to the Schwab ETF, where dividends and dividend growth both play larger roles in the selection process.

Don't trust an ETF's name

The WisdomTree U.S. Quality Dividend Growth Fund ETF's name may lead you to believe that this ETF is doing something that it isn't actually doing. But you need to dig into the methodology to actually figure out that the name is a bit misleading. I did that work, and now that I understand what the fund is doing, I wouldn't touch it with a 10-foot pole. My investing goals are different.

The Schwab US Dividend Equity ETF will probably get you closer to the mark if you are looking for quality dividend growth stocks.

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Reuben Gregg Brewer has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.