There’s a lot of overlap between dividend-paying sectors and low-volatility sectors, WisdomTree’s Schwartz says.
Many investors could find the process of weeding through a vast—and still growing—roster of dividend-focused equities ETFs mind-boggling these days, because there are so many funds out there offering their own take on the same theme, but one thing is certain: At times of increased market volatility—thanks to a global economy that has yet to find a strong footing, following the credit crisis of 2008—dividend stocks do more than generate income, WisdomTree’s Director of Research Jeremy Schwartz told IndexUniverse Correspondent Cinthia Murphy in a recent interview. They are actually quite good at mitigating volatility in a portfolio.
Murphy: Why do you see dividend-weighted approaches as a better way to manage risk exposure than a more traditional market-cap approach? What makes dividend-focused portfolios such a good idea?
Schwartz: About six years ago, when we launched 20 dividend funds in one day, we wanted to come out of the gate with a real alternative to market-cap-weighted strategies. Our goal was to allow investors to be able to do asset allocation in dividend baskets because there were few alternatives to market-capitalization indexes in the ETF market. Today the market environment is even better for dividend stocks than it was six years ago: Interest rates are at historical lows; the yield on 10-year Treasurys is very low; the traditional sources of income have all but dried up.
There’s also more of a concern today that the 30-year bull run in bonds will eventually reverse, and you also have an aging demographic that is looking for higher income and lower volatility. Dividend stocks typically deliver that.
Murphy: Is this marketing push for dividend stocks a trap for investors who could be forgetting that, dividend-paying or not, these are equities and therefore are more volatile than bonds, and could get them caught in a downdraft?
Schwartz: I don’t think it’s a trap, but you have to know your risks. Stocks are more volatile than bonds, but a bond can also face capital losses. There are different risk profiles you need to keep in mind when you are looking at what you want to hold for a longer period of time.
If you buy an individual 10-year Treasury bond and hold until maturity, you know with high confidence what your return will be. Prices can change on those bonds, but if you hold to maturity, that is largely irrelevant. Stock prices of dividend payers, on the other hand, fluctuate on a daily basis, and people monitor that.
I believe one should focus more on the stable income stream longer term, because checking that change on a daily basis will make you nervous and potentially prone to sell at inopportune times. If you look at the average dividend per share in the S&P 500, it has averaged 5 percent a year for the past 50 years and is fairly stable. Yields on a 10-year Treasury right now are 1.81 percent, and the average large-cap dividend-paying stock in the U.S. is over 3 percent. If investors can either stomach the daily volatility or not watch price moves daily, I believe there is better value in the dividend stocks.