Investors who are considering ways to diversify their exchange traded fund investment portfolios should take a look at strategies focused on the elite Dividend Aristocrats indexes to better navigate market uncertainty.
On the recent webcast, Navigating Market Turbulence with Dividend Aristocrats ETFs, Simeon Hyman, Global Investment Strategist, ProShares, highlighted the heightened levels of volatility investors experienced over the past year, with many asset categories swinging back to double-digit gains this year after suffering through double-digit losses in 2018. Investors have already experienced more 1% daily moves in the S&P 500 in 2019 than what was experienced in 2017, but the year so far has been much less volatile than 2018.
As the U.S. heads deeper into the late economic cycle, earnings growth is beginning to slow, with S&P 500 quarterly earnings even contracting for the first time since 2016 during Q1 2019. Currently, the markets are no longer priced cheaply and are also not priced too expensively. “Today’s valuations are quite reasonable, given low rates,” Hyman added.
Given the near full valuations, bouts of volatility and hard-to-come-by earnings growth that pose challenges to equity investors, Hyman argued that quality stocks present an opportunity to diversify a portfolio. 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 convection 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.
Dividend-paying companies have also exhibited a long history of outperforming the markets. Since 1960, dividends have contributed approximately 33% of the S&P 500’s total return.
“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,” Kieran Kirwan, Director, Investment Strategy, ProShares, said.
Kirwan underscored quality and growth as key components. Companies that grew dividends outperformed companies that didn’t. Companies that consistently grow their dividends tend to be high-quality with strong growth potential. These types of companies were able to withstand periods of market turmoil and still deliver strong returns with lower volatility.
In the period between 1987 through 2018, dividend growers within the Russell 3000 generated an annualized 13.1% return with an annualized volatility of 14.3%. In comparison, dividend non-changers returned 9.4% with a 16.8% volatility, dividend non-payers returned 6.9% at 23.8% volatility, and dividend cutters saw a 5.8% return with 21.9% volatility.
The dividend growth story has also consistently outperformed over time. Looking at the three-year rolling returns, the S&P 500 Dividends Aristocrats Index outperformed the S&P 500 111 of the 129 periods, or 88% of the period, from 2005 through 2018.
To better track this group of quality company stocks, investors can look to 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.
“NOBL allows us to maintain exposure to the equity market, and decreases exposure to cyclical and speculative companies,” Aaron Gilman, Chief Investment Officer, Independent Financial Partners (IFP), said.
Dividend growers also tend to capture most of the upside potential during bull rallies and limit downside risk or capture a lower percentage the downside. When the markets experienced wild swings, dividend aristocrats remained on a relatively more stable footing. For example, comparing the S&P 500 Dividend Aristocrats Index against the S&P 500 Index, dividend growers captured 92% of the upside but only experienced a 75% downside capture ratio.
ProShares also offers the ProShares Russell 2000 Dividend Growers ETF (BATS: SMDV) and the ProShares S&P MidCap 400 Dividend Aristocrats ETF (BATS: REGL) for those seeking quality dividend growers in the small- and mid-cap categories, respectively. REGL tracks a Dividend Aristocrats Index. 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.
Investors can diversify into international markets while tracking similar dividend growth strategies. For instance, the ProShares MSCI EAFE Dividend Growers ETF (BATS: EFAD) tracks developed market Europe, Australasia and Far East companies that exhibit a minimum dividend increase streak of 10 years.
The ProShares MSCI Europe Dividend Growers ETF (BATS: EUDV) tracks the performance of the MSCI Europe Dividend Masters Index, which consists of at least 25 European companies that have consistently increased their dividends for at least 10 consecutive years. The ProShares MSCI Emerging Markets Dividend Growers ETF (BATS: EMDV) follows the MSCI Emerging Markets Dividend Masters Index, which targets MSCI Emerging Market components that have increased dividend payments each year for at least seven consecutive years.
Financial advisors who are interested in learning more about dividend-generating strategies can watch the webcast here on demand.