Much has been made of the recent divergence of U.S. small-caps from their large-cap counterparts. It is easy to see why. Year-to-date, the iShares Russell 2000 ETF (NYSEArca: IWM), the biggest small-cap ETF by assets, is clinging to a small gain while the S&P 500 has been a solid performer.
Small-cap stocks are usually prized for growth possibilities, not income-generating potential. However, more and more smaller stocks are rewarding shareholders with dividends and that theme is accessible via several exchange traded funds, including the ProShares Russell 2000 Dividend Growers ETF (BATS: SMDV).
The ProShares Russell 2000 Dividend Growers ETF, a dividend spin on the Russell 2000, the benchmark U.S. small-cap index, tracks the Russell 2000 Dividend Growth Index. That index includes small-cap firms with dividend increase streaks of at least a decade. Index constituents are screened for liquidity and dividend status, then selected and equal weighted subject to a maximum sector weight of 30%.
The Russell 2000 Dividend Growers Index includes quality, dividend-growing small-cap companies that delivered higher return on equity compared to other small-caps, and these quality dividend payers did so without sacrificing earnings per share growth.
“While small caps, in general, tend to come with higher risk than the broader market (the standard deviation of daily historical returns for the Russell 2000 Small Cap index is about 20% higher than that of the S&P 500), the focus on dividend payers produces a more conservative value tilt that drops the risk significantly,” according to ETF Daily News.
Federal Reserve rate hikes could help support the U.S. dollar, which would make U.S. exports more expensive overseas and diminish revenue for larger companies with a bigger international footprint. In contrast, small-cap stocks are focused on domestic markets. SMDV holds 57 stocks, just over 29% of which hail from the utilities sector. The ETF allocates over 30% of its combined weight to industrial and financial services stocks, according to issuer data.
“The difference in risk between dividend payers and non-payers is especially evident in the small cap space. The P/E ratio of the broader Russell 2000 is over 33. The Dividend Growth index, which the Dividend Growers ETF is based, has a P/E of just 21. The price/cash flow and long-term EPS variability measures show significantly lower risk as well. The drawback? Earnings per share growth is just 3%, easily the lowest of any of these groups. A 21 P/E may be low in comparison but it’s rich if there’s only 3% EPS growth. Without a multiple expansion, investors could be headed towards below average total returns unless companies can begin beating expectations in the upcoming earnings season,” adds ETF Daily News.
For more information on the small capitalization market, visit our small-cap category.