Can you really diversify income with ETFs?

Plain vanilla ETFs use market-cap weighted indices, but global income ETFs use ones that are dividend weighted. This means they ignore market capitalisation and instead invest in the companies paying the biggest dividends, and are weighted accordingly so investors get the most exposure to the highest dividends. Theoretically this will maximise income.

In a crude sense, this process replicates the stock selection activities of global income fund managers, who aim to pick stocks that pay high dividends, although income is not the only factor they take into consideration.

It's a growing market where new products are popping up. Last week S&P Dow Jones Indices launched a new index designed to measure the performance of the highest dividend yielding companies within the S&P Global Broad Market Index (BMI) called the S&P Global Dividend Aristocrats Index.

The obvious benefits of using these ETFs over actively managed funds are the cheap charges. ETFs are about the lowest cost investments on the market, and by investing in one (instead of an active fund) you could slash the cost of getting global income exposure in your portfolio by around two-thirds.

But, according to Ben Seager-Scott, passive analyst at Bestinvest, you get what you pay for with cheap global income funds. He says ETFs are incapable of replicating active fund managers' stock picking techniques and warns the fact they are based on past performance data is "concerning".

"You should definitely go for active funds in this sector", he said. "Plain vanilla ETFs are often brilliant, but dividend weighting overcomplicates things, and cannot replicate the judgement of human brains."

But Adam Laird, passive analyst at Hargreaves Lansdown, disagreed, and pointed out that although global income ETFs are relatively new in the UK, similar products have already proved very popular with private investors in the US. So which regions are your best bets if you're taking the ETF route to income? Mr Laird recommends taking a broad view and picking funds that track a global index. He likes two synthetic products.

The first is db x-trackers Stoxx Global Select Dividend 100 UCITS ETF (XGSD). This is one of db-x tracker's longest established income ETFs and has a yield of 5.13 per cent - that's above comparable active funds. He also likes Lyxor ETF SG Global Quality Income NTR C-GBP (SGQL) - a slightly more concentrated fund with around 75 stocks. This is a very new fund and has a low total expense ratio (TER) of 0.45 per cent.

If you are keen on concentrating on one region, Asia Pacific and the US are the most obvious in terms of opportunities. Asia Pacific offers more potential for growth but is also an exciting region for dividend stocks and this is sometimes overlooked. db x-trackers MSCI AC Asia Ex Japan High Dividend Yield Index UCITS ETF (XHAG) is the broadest Asian dividend ETF with almost 200 stocks represented, but it's a synthetic fund (constructed using derivatives) which might put some investors off. Its TER is 0.65 per cent.

But if you want a physically replicated alternative (that buys the underlying shares), iShares DJ Asia/Pacific Select Dividend 30 (IAPD) is worth a look, although note that it holds only 30 stocks. It also has a lower TER than the db-x tracker fund at 0.59 per cent.

The US really lends itself to passive investing as there are few US active managers who have consistently beaten their market, so the SPDR S&P US Dividend Aristocrats UCITS ETF (UDVD) could be a good bet if you're keen on the region. This fund also has a very cheap TER of 0.35 per cent.

Although an advocate of dividend ETFs, Mr Laird warns : "It is important to take a close look at ETFs which give more weight to high dividend stocks. If a fund weights its holdings by yield, it is ultra-vulnerable to dividend cuts as cuts accompany price drops. It may also place higher weightings on shares that have made past losses.

"Performance of dividend ETFs depends a lot on how often they rebalance the holdings - as companies announce dividend changes regularly, which can have big effect on the price. Most groups reweight their holdings quarterly or annually - my preference is for more regular re-weighting though this can increase charges," he said.