The so-called dividend aristocrats have an impressive track record. But much of that outperformance can be attributed to its exposure to certain factors.
Since 2002, S&P Dow Jones Indices has published its S&P Indices Versus Active (SPIVA) scorecard, which compares the performance of actively managed mutual funds to their appropriate index benchmarks. The U.S. mid-year 2023 scorecard showed that, over the long term, active managers failed with great persistence in every single equity asset class. For example, over the prior 20 years:
- 93% of funds underperformed the benchmark S&P Composite 1500.
- 94% of large-cap funds underperformed the benchmark S&P 500.
- 94% of small-cap funds underperformed the benchmark S&P SmallCap 600.
- 95% of mid-cap funds underperformed the benchmark S&P MidCap 400.
- 94% of multi-cap funds underperformed the benchmark S&P Composite 1500.
- Similar results were found for growth and value funds of various capitalization categories.
On a risk-adjusted basis, the results were even worse, as 97% of all funds underperformed the benchmark S&P Composite 1500. Similar results were found in the various individual categories. Finally, the average underperformance was quite large, even before considering taxes, which is typically the greatest expense for active funds held in taxable accounts. For example, over the 20-year period, the average asset-weighted (equal-weighted) underperformance of domestic equity funds versus the S&P Composite 1500 was 1.21% (1.82%).
With those results in mind, Rupert Watts, head of factors and dividends at S&P Dow Jones Indices, looked at the success of active management – examining how actively managed U.S. equity income funds have performed against the S&P 500 Dividend Aristocrats.
Dividend aristocrats
The S&P 500 Dividend Aristocrats follows a simple systematic approach to select constituents. To be eligible for inclusion, companies must be members of the S&P 500 and have raised dividends for a minimum of 25 consecutive years. These companies tend to exhibit stable earnings, solid fundamentals and strong histories of profitability and growth. The index included 67 companies as of June 2023. Dividend strategies are popular with many investors even though (unlike with the size, value and profitability/quality factors) none of the most commonly used asset-pricing models include dividends as an explanatory factor in returns. The popularity of the ProShares S&P 500 Dividend Aristocrats (NOBL), with an expense ratio of 0.35%, is indicated by its almost $11 billion in assets under management (as of October 26, 2023).
Active managers versus the Dividend Aristocrats Index
Comparing the performance of actively managed equity-income funds to that of the dividend aristocrats, Watts found that over the five- and 10-year periods ending June 30, 2023, 95.8% and 98.6%, respectively, of the active funds underperformed the dividend aristocrats. And the underperformance was quite dramatic. For example, over the 10-year period ending June 30, 2023, the dividend aristocrats returned 12%, outperforming the 9.6% (8.1%) asset-weighted (equal-weighted) return of the equity-income funds. Over the more recent five-year period, the dividend aristocrats outperformed as well, returning 11.4% versus 9.2% (7.7%) asset weighted (equal weighted) for the actively managed equity income funds. Over this five-year period, NOBL (inception November 2013) returned 10.74% (underperforming the index by about 66 basis points, 31 basis points more than its current expense ratio). Morningstar indicated that as of October 26, 2023, the fund’s return over the prior 10 years of 9.4% placed it in the 9th percentile of funds in its large-value category, outperforming 91% of funds in that category.
Watts’ findings led him to conclude: “The track record of significant outperformance is yet another reason why the S&P 500 Dividend Aristocrats is an iconic dividend index. This simple but rigorous methodology has not only proved difficult for most active equity income managers to beat, but it has also made it a standout among its passive peers.” With that conclusion in mind, let’s take a deeper diver into the performance of NOBL.
NOBL risk-adjusted performance
Using the regression tool at Portfolio Visualizer, we can determine if NOBL was delivering “standout” performance. The regression results, using AQR factors, show that from November 2013 through June 2023, the fund generated an annual alpha of -1.19% (though the t-stat was insignificant at 0.8). The fund’s return of 10.68% over the period was well explained (R-squared value of 91.1%) by its highly statistically significant exposures to the factors of market beta (0.95), value (0.16) and quality (0.35). The fund’s exposures to the size and momentum factors were both very small and statistically insignificant at -0.04 and 0.01, respectively. It should be no surprise that the fund’s exposure to the quality factor was significant, as the dividend aristocrats tend to be companies that exhibit stable earnings, solid fundamentals and strong histories of profitability and growth – metrics indicative of quality.
Keeping in mind that the fund had large exposure to the quality factor, we can also compare NOBL’s performance to that of the iShares MSCI USA Quality Factor ETF (QUAL), which has an expense ratio of just 0.15%. Over the10-year period ending October 26, 2023, while NOBL returned 10.68%, QUAL returned 11.93%. Interestingly, NOBL’s quality exposure of 0.35 was much higher than QUAL’s exposure of 0.16. Another major difference was that while NOBL had a loading of 0.16 on the value factor, QUAL’s value exposure was -0.10. QUAL also had a higher loading on the market beta factor (1.03 versus 0.95). Finally, QUAL produced an alpha of -0.81%, 38 basis points higher than NOBL’s -1.19. As a matter of interest, Vanguard’s S&P 500 Index ETF (VOO) returned 10.96% over the same period.
Investor takeaways
Once we consider risk-adjusted performance, accounting for exposure to common factors, the dividend aristocrats’ performance no longer appears to be a standout. In addition, the data I reviewed demonstrates why academics don’t include dividends as an explanatory factor in returns – just as Nobel laureates Franco Modigliani and Merton Miller hypothesized in their famous 1961 paper, “Dividend Policy, Growth, and the Valuation of Shares” (see here and here for brief explanations of dividend irrelevance theory). It’s why at my firm, Buckingham Wealth Partners, we don’t consider dividends when making investment decisions.
Larry Swedroe is head of financial and economic research for Buckingham Wealth Partners, collectively Buckingham Strategic Wealth, LLC and Buckingham Strategic Partners, LLC.
For informational and educational purposes only and should not be construed as specific investment, accounting, legal, or tax advice. Certain information is based on third party data and may become outdated or otherwise superseded without notice. Third party information is deemed to be reliable, but its accuracy and completeness cannot be guaranteed. The mentions of specific securities above are for informational purposes only and should not be construed as specific recommendation of the securities nor is it indicative a portfolio. Neither the Securities and Exchange Commission (SEC) nor any other federal or state agency have approved, determined the accuracy of, or confirmed the adequacy of this article. LSR-23-575
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The so-called dividend aristocrats have an impressive track record. But much of that outperformance can be attributed to its exposure to certain factors.
