Small-, Mid-Cap Dividend Growth ETFs Could Provide Value in Today's Markets | ETF Trends

Quality dividend growth ETF strategies in small- and mid-caps are well positioned for today’s market environment.

In the recent webcast, Dividend Growth Strategies: A Big Idea for Small and Mid Caps, Simeon Hyman, Global Investment Strategist, ProShares, helped provide an overview of what the markets have just gone through, highlighting a strong 2019 for most risk assets with U.S. large-caps leading the charge in global markets.

Hyman also pointed out that the economy still enjoys low inflation and low unemployment levels. The S&P 500 today is also trading at a relatively low price-to-earnings of less than 22, compared to the prior extended bull runs, and we are still in a much lower interest rate environment, which suggests that the long but muted recovery from the Great Recession has yet to overheat the economy.

While Hyman warned that the weak earnings growth may not fully sustain the heightened valuations going ahead, the Trump corporate tax cuts may continue to support Corporate America’s bottom line, along with other economic tailwinds like low unemployment rates, healthy consumer demand and strong consumer confidence, among others.

“Don’t count out the bull market yet,” Hyman said.

In this type of environment, investors may be looking for more attractive areas to focus on beyond the large-cap segment that has enjoyed a strong rally but is now either fully priced or expensive. Specifically, Kieran Kirwan, Director, Investment Strategy, ProShares, argued that investors may find better relative valuations for small- and mid-caps.

“Mid- and small-cap stocks have been trading at an ever increasing discount to U.S. large cap stocks over the past 10 years,” Kirwan said.

However, Kirwan warned that leverage remains a key challenge for these smaller companies, but if we focuses on small- and mid-caps with less leverage, like those that have consistently grown dividends, investors may find opportunities.

Hyman pointed out that mid- and small-caps have also exhibited a history of long-term outperformance, compared to large-caps. Specifically, in the 15 years ended March 2019, the S&P MidCap 400 Index returned an average annualized 11.7% and the S&P SmallCap 600 Index returned 10.8%, compared to the 9.8% return for the S&P 500 Index.

Along with the focus on smaller companies, investors should also look to dividend growers to potentially enhance long-term returns.

“Many factors contribute to equity returns, but dividends in particular have contributed significantly to returns over time. If we look at total returns for the S&P 500 since 1960, whether by the decade or overall, it’s evident how strong an effect dividends have had. In fact, nearly a third of total S&P 500 returns over time can be attributed to dividends,” Hyman said.

Specifically, investors should consider quality dividend growth stocks that typically exhibit, stable earnings, solid fundamentals, strong histories of profit and growth, commitment to shareholders and management team conviction in their businesses.

“There are common traits that define high-quality companies that grow their dividends. They tend to have long histories of profit and growth; they typically have strong fundamentals and stable earning streams; and their strength comes from the top, from management teams with conviction and a firm commitment to shareholders,” Hyman said.

Rolf Agather, Managing Director of North American Research, FTSE Russell, pointed out that the dividend growth indexing methodologies have helped investors hone in on companies with strong fundamentals. For instance, the Russell 2000 Dividend Growth index has exhibited higher dividend yields, higher return on equity, higher return on assets and lower debt to equity when compared to the more widely observed Russell 2000 benchmark. In the 10 year period ended February 2019, the Russell 2000 Dividend Growth Index has also outperformed its Russell 2000 parent.

“The Russell 2000 Dividend Growth Index has demonstrated higher returns and lower risk over the last 10 years,” Agather said. “The index has experienced lower overall volatility as well as lower drawdowns and more favorable capture ratios.”

Similar traits can be seen when comparing larger companies that issued consistent dividend growth.

“Dividend growth strategies also offer a solution to the higher leverage of mid- and small-cap stocks, with the S&P 400 Dividend Aristocrats and the Russell 2000 Dividend Growth indexes having substantially lower leverage than the S&P MidCap 400 and Russell 2000 respectively. At the same time, these dividend growth indices are shown to have higher profit margins than their parent indices,” Hyman added.

To track this group of quality company stocks, investors can look to dividend growth strategies like the ProShares S&P 500 Aristocrats ETF (BATS: NOBL), which measures stocks with a long track record of dividend growth with companies increasing dividends for at least 25 consecutive years.

ProShares also offers dividend growth ETFs that focus on other market segments, like the ProShares Russell 2000 Dividend Growers ETF (SMDV) and the ProShares S&P MidCap 400 Dividend Aristocrats ETF (REGL) for those seeking quality dividend growers in the small- and mid-cap categories, respectively. The mid-cap Dividend Aristocrats Index, though, only requires 15 consecutive years of increased dividends for inclusion. SMDV, a dividend spin on the Russell 2000, the benchmark U.S. small-cap index, tracks the Russell 2000 Dividend Growth Index, which includes small-cap firms with dividend increase streaks of at least a decade.

Additionally, ProShares recently added to its burgeoning lineup of dividend growth ETFs with the broad ProShares Russell U.S. Dividend Growers ETF (TMDV), which takes components out of the widely observed Russell 3000 that have shown 35 years of consecutive dividend growth.

Financial Advisors who are interested in learning more about dividend growth strategies can watch the webcast here on demand.