Stock price fluctuations tend to monopolize investors’ attention, on a daily basis. Yet dividends account for a significant and much more stable part of the equity premium over the long term. This is also true for Robeco’s Conservative Equity strategies which, in addition to risk reduction, offer high income and attractive returns.
When considering stock returns, investors often tend to overlook dividends and focus mainly on price changes. Indeed, from a short-term perspective, price fluctuations are clearly the main driver of stock returns. Daily price moves are frequently larger than the dividend earned over a full year. The bigger picture only emerges when a truly long-term perspective is taken: dividends are also very important.
In fact, over the past century roughly half of equity returns has come from dividends and half from price changes. Figure 1 shows the US equity return decomposition, going back as far as 1900. Over this very long period, equities have delivered a total return of 9.5% per year, 4.5% of which came from dividends and 5.0% from price increases.
A closer analysis of stock returns shows that stocks characterized by an above-average dividend yield tend to deliver higher and more stable returns over time. This is because companies that distribute such high dividends tend to be more mature businesses, with a more conservative management approach. Systematically investing in stocks which pay a high dividend can therefore be considered an effective way to reduce volatility, while at the same time enhancing returns.
Robeco’s Conservative Equities approach comprises a range of active low volatility strategies. Their primary focus is to reduce risk by combining the statistical analysis of low risk factors with our own more forward-looking proprietary distress risk factors. Since inception in October 2006, this approach has helped us reduce volatility by 27% compared with the MSCI World Index (10.4% versus 14.3%).
But our Conservative Equities strategy also aims to deliver enhanced returns. We do this by adding customized valuation/income and momentum/sentiment components to the stock selection model. High dividend is an interesting characteristic because it usually leads to both lower risk and higher returns. Therefore, our Conservative Equities strategy involves selecting firms with high and stable dividends. In addition, we take into account share buybacks, as some companies prefer to repurchase shares rather than pay dividends.
Moreover, if a stock’s price momentum is strong, earnings revisions are positive and there is strong credit momentum, the risk of seeing dividends decrease over time is mitigated. Taking price momentum into account also helps us avoid value traps and reduce risk.
Beside a risk-reduction of 27%, the Conservative Equities strategy showed a more stable and attractive return pattern between October 2006, when the strategy was introduced, and the end of 2017. It also achieved an 8.0% annualized return, in line with the MSCI Momentum Index, while the MSCI World Index generated a 5.6% annualized return over the same period.
The strategy’s average dividend return during the same period was 3.9%, which is double that of the MSCI World Index, at around 2%. The dividend return was in line with the MSCI High Dividend Index, which realized a return of 3.5%.
As a result, the Conservative Equities strategy offers a compelling proposition compared to traditional market capitalization-weighted indices in terms of three key aspects (see Figure 2): higher dividend (in line with the MSCI High Dividend Yield Index), lower risk (in line with the MSCI Minimum Volatility Index) and higher returns (similar to the MSCI Momentum Index).
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