The Case Against Equity Income Funds

Gaining Income While Losing Capital?

October 2019. Reading Time: 10 Minutes. Author: Nicolas Rabener.


  • Equity income mutual funds have underperformed the S&P 500 since 1988
  • Especially on a post-tax basis
  • Investors can create tax-efficient equity portfolios, but it does not represent a free lunch


Warren Buffett is probably the most well-known and well-liked investor, which is easily explained by the immense wealth he achieved through extraordinary investment acumen and his charming nature. Unfortunately, his advice, which he provides generously at any occasion, and actions are often misunderstood by investors.

Take his perspective on dividends for example. Buffett has a preference for companies that consistently and sustainably pay dividends as he regards this as a sign of quality in a business and can reinvest income in the Berkshire Hathaway empire. However, he is more concerned about the total return of his investment than an exceptionally high dividend yield. Furthermore, he frequently explains that dividends are unattractive from a taxation perspective. Consequently, Berkshire Hathaway has only distributed excess cash to shareholders through share buybacks and never via dividends (read Warren Buffett: The Greatest Factor Investor of All Time?).

Unfortunately many investors are enamored with equity income funds that pay regular dividends. It is intuitive that certain types of investors like receiving regular income from their investment portfolio. For example, retired workers tend to perceive dividends as a substitute for wages. However, investors might consider Buffett’s advice and question the soundness of dividend strategies.

In this short research note, we will investigate the track record of equity income mutual funds in the US as well as consider alternatives that might be more favourable from a taxation perspective.


Simple equity income strategies that focus on maximising dividend yields are often criticised for selecting low-quality companies as high dividend yields typically reflect high risks given poor business or industry characteristics. However, it is worth noting that equity income mutual