Launched in February 2019, the S&P 500^® GARP Index was the first transparent benchmark tracking growth companies that are identified as being higher quality with lower valuations. Given the success of this index, we launched the S&P MidCap 400^® GARP Index and S&P SmallCap 600^® GARP Index to expand the available toolkit. Since their launches in 2023, these two indices have outperformed their corresponding benchmarks by a wide margin (see Exhibit 1). For market participants seeking to diversify their mega-cap exposures, the S&P MidCap 400 GARP and S&P SmallCap 600 GARP Indices may provide two alternatives. In this blog, we investigate the index's design, performance, characteristics and attribution. Rationales and Index Design

The S&P GARP Index Series strives to select companies with top earnings and sales growth, strong earnings power, solid financial strength and reasonable valuation. To meet the index objective, the S&P GARP Index Methodology uses a two-layer sequential filtering approach to select its constituents (Exhibit 2).

In the first step (filter 1), stocks are ranked by their growth z-scores (three-year earnings per share [EPS] and sales per share [SPS] growth), with the top 30% of the universe stocks remaining eligible for constituent inclusion. In the second step (filter 2), the eligible stocks are ranked by their quality and value (QV) composite z-scores and one-half of the top-ranked stocks are selected.¹ The QV score is based on the average of two quality factors (return on equity and financial leverage ratio) and one value factor (earnings-to-price ratio).

The selected constituents are weighted proportional to their growth exposure, subject to the maximum individual weight of 5% and sector weight of 40%. This approach seeks to provide high growth exposure and limit concentration risk.

Performance Comparison

Historically, the S&P GARP strategies have outperformed their corresponding benchmarks over the short and long term with respect to total return and risk-adjusted return (see Exhibit 3). Additionally, they have tended to exhibit growth characteristics, as evidenced by a higher participation ratio in up markets and a similar participation ratio to their benchmarks in down markets.

Balancing Growth and Value

The S&P GARP Indices seek to strike a balance between growth and value. Historically, they have outperformed their corresponding growth and value strategies over the short and long term with respect to total return (see Exhibit 4a and 4b) in both S&P MidCap 400 and S&P SmallCap 600 universes.

Sector Exposure

We next explore the relative sector exposures² of the S&P GARP strategies versus their corresponding underlying universes (S&P MidCap 400 and S&P SmallCap 600). As seen in Exhibit 5, GARP strategies historically have had a significant overweight in Consumer Discretionary (close to +10%) relative to their corresponding benchmarks, with a large underweight in Financials (about -5.5%) and Utilities (about -3.5%).

Factor Exposure

Exhibit 6 shows the factor exposure of the S&P GARP strategies versus their corresponding benchmarks in terms of the Axioma US Risk Model Factor Z-scores. In line with their design objectives, the S&P GARP strategies demonstrated strong growth, quality and value tilts versus their corresponding benchmarks. Specifically, the S&P GARP strategies had higher exposures to EPS and sales growth, profitability and value factors, with a lower exposure to leverage ratio than their corresponding benchmarks.

¹ Please refer to the methodology for more details. The indices apply a 20% selection buffer according to the following process: 1. Rank the top growth z-score stocks by QV composite z-score. Select automatically the top 80% highest ranking stocks for index inclusion. 2. Select current constituents ranked within the top 120% by QV composite z-score for index inclusion in order of QV composite z-score until the target QV count is reached. 3. If, at this point, there are not enough constituents selected to meet the QV count, select non-constituents based on QV composite z-score ranking until the target count is reached.

² Relative sector weight = GARP sector weight - corresponding benchmark sector weight

The posts on this blog are opinions, not advice. Please read our Disclaimers.

The tale of a footrace between a determined tortoise and a swift but ultimately complacent hare has been with us for a long time. The earliest known version is two and a half thousand years old; it begins with the hare mocking the tortoise's slow feet, which leads to a challenge and a contest, and ends in a surprising victory.

We recently published a paper on the rise of passive investing in the fixed income markets and borrowed the title of Aesop's fable for our purposes. Those who are more audibly inclined can hear an interview on the topic conducted via S&P Global's "The Essential Podcast"—which I must admit was great fun to participate in.

There are a couple of ways in which a comparison between Aesop's fable and passive bond investing may be germane. On the one hand, active investing is the more nimble and celebrated approach: beating the index, never settling for "average," in comparison to the methodical and pedestrian process of passively tracking a market. In this reading, active managers play the role of the hare, index investors the tortoise.

On the other hand, the story of passive investing is more frequently told with regards to the stock market: the first index fund, the first ETF, the greatest proportion of assets—are all assigned to the equity story. The stock markets (and their indices) are also subject to more glamorous and exciting media coverage, most of the time. In terms of passive adoption, it is the bond markets that are the tortoise.

Both interpretations align with a general perception among professional investors that the bond markets are more suited to active management. It seems to be widely believed that active managers have a greater success rate in bonds, and while that may not necessarily be true, it is a fact that passive adoption is less material among bond mutual funds, and tracking bond indices can be much harder than tracking equity indices.

Nonetheless, much like the slow-and-steady tortoise, passive investing is catching up in bonds. This is a trend of significant importance to those working in or using financial services. If the current trajectory continues, the profession of fixed income investment management may be set for a fundamental evolution—echoing that which has occurred in equities over the past 50 years.

Slow and steady doesn't always win the race, but there is mounting evidence—including in our SPIVA^® Scorecards—suggesting that it's not a bad approach to the markets. To dig into the details, we invite you to take a dive into the paper or listen to the podcast.

The posts on this blog are opinions, not advice. Please read our Disclaimers.

"I think it's from all those dog-gone cocoa beans. Hey, by the way, did you guys know that chocolate contains a property that triggers the release of endorphins? Gives one the feeling of being in love." -Willy Wonka, Charlie and the Chocolate Factory (2005)

Inflation presented a direct hit to consumers at the pump, with gasoline futures moving in near lockstep with oil. Petrol prices from crude, gasoil and gasoline rose 16%, 17% and 18% YTD, respectively. The S&P GSCI All Crude, which makes up over 42% of the broad index, is trading at a six-month high on the back of production cuts by OPEC+. These cuts offset yet another record in U.S. crude oil production, according to the Energy Information Administration. Strong petroleum performance led the S&P GSCI to an 10.4% YTD return, a solid start that perhaps is overshadowed only by the S&P 500^® at all-time highs. At S&P Global's recent CERAWeek event, leading commodity market participants engaged in discussions ranging from energy transition to geopolitics. Nickel is at the center of both, due to its importance as a primary metal for electric vehicles. Indonesia accounts for over half of nickel production and is pushing for an OPEC+ style cartel to manage future supply. The S&P GSCI Nickel continues to lag the broader commodity market, down 6.7% for the month and 33% lower over the past year.

Cocoa futures hit an all-time high as a perfect storm fueled prices. Poor weather in West Africa's prime cocoa growing region continues to be ravaged by El Niño weather patterns. Crop yields dropped over 10% due to extreme rain, then drought, in 2023. This acutely impacted growing regions beset by ageing trees near the end of their fruit bearing life and further strained by black pod disease, a fungus killing cocoa trees. Chocolate demand driven by Easter holidays in the west pushed demand expectations to 370 thousand tons more than the 2024 supply, according to the International Cocoa Organization. Pricing surged beyond USD 10,000 per ton and were up 147% on the year.

Gold is another commodity hitting record highs this month. The perceived safety of gold continues to attract assets in an environment dominated by war, political upheaval and central bankers balancing inflationary concerns against continued economic growth. Unlike its digital upstart Bitcoin, gold has been transported across political borders for millennia, acting as a hedge against global economic uncertainty. This century, gold continues to outpace the S&P 500, with an average annual total return of 8% for the Dow Jones Commodity Index Gold compared to 7.4% for the S&P 500.

The posts on this blog are opinions, not advice. Please read our Disclaimers.

Investor enthusiasm for AI and mega-cap technology stocks has propelled the S&P 500^® to a gain of more than 30% over the past 12 months. As the S&P 500 has been reaching new highs on a regular basis, it is understandable if low volatility stocks have not been at the top of investors' minds. This blog will serve as a reminder of just how effective the S&P 500 Low Volatility Index has been at delivering defensive qualities and superior risk-adjusted returns over the long term. Furthermore, we will examine the S&P 500 Low Volatility Index's historically attractive current relative valuations, solid profitability, enhanced dividend yields and, perhaps unnoticed, significantly higher growth versus the S&P 500 in recent years.

Defensive Qualities and Superior Risk-Adjusted Returns

Exhibit 2 displays the consistent downside protection that the S&P 500 Low Volatility Index has provided during historic market drawdowns. It has outperformed in all drawdown periods shown except for the COVID-19 drawdown, when it underperformed by 0.7% over the course of one month. During these periods, the S&P 500 returned an average of -19.9%, versus -6.5% for the S&P 500 Low Volatility Index. Notably, during the tech bubble burst drawdown, the S&P 500 declined 43.8%, versus a gain of 25.0% for the S&P 500 Low Volatility Index, translating to an outperformance of 68.8%.

S&P 500 Low Volatility Is Currently Valued at the 99^th Percentile of Cheapness Relative to the S&P 500

Exhibits 3 and 4 show the historically attractive current valuation discount of the S&P 500 Low Volatility Index relative to the S&P 500. On a price-to-book, price-to-sales and price-to-earnings ratio, as well as on a composite basis (i.e., a simple average of the three metrics), the S&P 500 Low Volatility Index currently trades at a 21.8%, 38.6%, 16.4% and 25.6% discount, respectively. As Exhibits 3 and 4 both indicate, the 25.6% composite discount places the index in the 99^th percentile of cheapness relative to the S&P 500 going back to September 2005.

Exhibit 5 compares the return on assets and return on equity of the indices, while Exhibit 6 compares the trailing one- and five-year growth metrics. It is interesting to note that, over the past 12 months, the S&P 500 Low Volatility Index was on par with the S&P 500 from a profitability perspective, in addition to demonstrating materially higher earnings and sales growth over the trailing one- and five-year periods.

As Exhibit 7 shows, the S&P 500 Low Volatility Index has typically had a superior dividend yield versus the S&P 500 over the long term. Recently however, the dividend yield spread has materially widened to 1.09%, a result of the S&P 500 Low Volatility Index yielding 2.49%, versus the S&P 500 yielding 1.40%. The current dividend yield spread is in the 87^th percentile going back to December 2002.

Conclusion

Over the long term, the S&P 500 Low Volatility Index has historically provided investors with superior risk-adjusted returns relative to the S&P 500. Although recent performance has lagged the S&P 500, it has come at a time when the S&P 500 Low Volatility Index has demonstrated similar profitability and significantly higher growth versus the S&P 500. For market participants who are hesitant about lofty valuation multiples but want exposure to solid fundamental performance and enhanced dividend yields, the S&P 500 Low Volatility Index may be an option to consider.

The posts on this blog are opinions, not advice. Please read our Disclaimers.

The results of S&P DJI's latest SPIVA U.S. Scorecard are in: Most large-cap active managers underperformed the S&P 500^® for the 14^th consecutive year in a row. 60% of active large-cap funds underperformed the S&P 500 in 2023, slightly better than the long-term average of 64%, and a relatively benign result considering the dominance of the U.S. equity market's largest stocks.

The current environment characterized by large-cap dominance can help add a unique perspective that can offer fresh insights into these results. Market concentration concerns in the U.S. have been prevalent, with the weight of the largest five companies in the S&P 500 rising from 19.5% a year ago to 25.2% as of the end of February, reaching levels we haven't seen since the early 1970s. Parallel to the increase in market concentration, the S&P 500 Equal Weight Index has suffered accordingly, underperforming the S&P 500 by 17% in the 12-month period ending Feb. 29, 2024, its worst 12-month relative performance since its launch more than 20 years ago.

The simultaneous increase in concentration, underperformance of Equal Weight and majority underperformance by active managers is not surprising, as when the largest stocks outperform, the market becomes more concentrated in those names, leading to the outperformance of cap-weighted indices versus their equal-weighted counterparts. Consequently, active managers generally face challenges in keeping pace with the market-cap weights of the largest companies.

Germane to concentration concerns, the ability to diversify away from capitalization weights via regular rebalancing is often touted as one of the benefits of active management. As a result, we might expect the relative returns of active managers to mirror that of Equal Weight, and that is exactly what we observe in Exhibit 2, which shows a strong linear relationship historically between the equal-weighted average excess return of funds in the U.S. Large-Cap Core category versus Equal Weight's excess return relative to the S&P 500.

Given their similarities, a natural question one can ask is how have active funds performed when compared to Equal Weight? 2023 was a notable outlier, with 68% of domestic equity funds outperforming Equal Weight, perhaps not coincidentally aided by the index's severe decline, with similar occurrences in 2007, 2008 and 2020. However, beating Equal Weight as a benchmark has proven to be difficult over the long term. Exhibit 3 shows that a majority of all actively managed domestic U.S. equity funds underperformed the S&P 500 Equal Weight Index in 16 of the last 20 years, with an annual average underperformance rate of 65%.

The data is evident that it has been very challenging historically to consistently outperform the benchmark, regardless of whether it is cap weighted or equal weighted. To dig deeper into how active managers across asset classes and geographies fared, we invite you to explore the results of our SPIVA U.S. Year-End 2023 Scorecard.

The posts on this blog are opinions, not advice. Please read our Disclaimers.