IN THIS LIST

S&P 500 Dividend Aristocrats: The Importance of Stable Dividend Income

What Happened to the Index Effect? A Look at Three Decades of S&P 500 Adds and Drops

Returns, Values, and Outcomes: A Counterfactual History

Limiting Risk Exposure with S&P Risk Control Indices

A Dynamic Multi-Asset Approach to Inflation Hedging

S&P 500 Dividend Aristocrats: The Importance of Stable Dividend Income

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Aye Soe

Managing Director, Global Head of Core and Multi-Asset Product Management

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Smita Chirputkar

Director, Global Research & Design

EXECUTIVE SUMMARY

  • Dividends play an important role in generating equity total return. Since 1926, dividends have contributed approximately 32% of total return for the S&P 500, while capital appreciations have contributed 68%.  Therefore, sustainable dividend income and capital appreciation potential are important factors for total return expectations.
  • Companies use stable and increasing dividends as a signal of confidence in their firm’s prospects, while market participants consider such track records as a sign of corporate maturity and balance sheet strength.
  • The S&P 500 Dividend Aristocrats is designed to measure the performance of S&P 500 constituents that have followed a policy of increasing dividends every year for at least 25 consecutive years.
  • The S&P 500 Dividend Aristocrats exhibits both capital growth and dividend income characteristics, as opposed to alternative income strategies that may be pure yield or pure capital-appreciation oriented.
  • Across all of the time horizons measured, the S&P 500 Dividend Aristocrats exhibited higher returns with lower volatility compared with the S&P 500, resulting in higher Sharpe ratios.
  • As of 2021, S&P 500 Dividend Aristocrats constituents included 65 securities, diversified across 11 sectors (see Exhibit 13 in the Appendix).
    • The constituents have both growth and value characteristics.
  • The composition of the S&P 500 Dividend Aristocrats contrasts with that of traditional dividend-oriented benchmarks that have a steep value bias and have high exposure to the Financials and Utilities sectors. At each rebalancing, a 30% sector cap is imposed to ensure sector diversification.
  • The S&P 500 Dividend Aristocrats follows an equal weight methodology.
    • This treats each company as a distinct entity, regardless of market capitalization.
    • This also eliminates single stock concentration risk.

INTRODUCTION

Dividends have interested market participants and theorists since the origins of modern financial theory.  As such, many researchers have investigated the various topics related to dividends and dividend-paying firms.  Previous studies by S&P Dow Jones Indices have shown that over a long-term investment horizon, dividend-paying constituents of the S&P 500 have outperformed the non-payers of dividends and the overall broad market on a risk-adjusted basis.

In recent years, the increasing amount of academic and practitioner research demonstrates that dividend yield is a compensated risk factor and has historically earned excess returns over a market-cap-weighted benchmark.  When combined with other factors such as volatility, quality, momentum, value, and size, dividend yield strategies can potentially offer exposure to systematic sources of return.

In this paper, we show that dividend yield is an important component of total return.  We also highlight pertinent characteristics of the S&P 500 Dividend Aristocrats, an index that seeks to measure the performance of the S&P 500 constituents that have increased their dividend payouts for 25 consecutive years.  We show that the S&P 500 Dividend Aristocrats possesses desirable risk/return characteristics, offering higher risk-adjusted returns and downside protection than the broad-based benchmark.  In addition, our analysis shows that the S&P 500 Dividend Aristocrats is sector diversified and displays growth and value characteristics.

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What Happened to the Index Effect? A Look at Three Decades of S&P 500 Adds and Drops

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Aye Soe

Managing Director, Global Head of Core and Multi-Asset Product Management

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Hamish Preston

Director, U.S. Equity Indices

EXECUTIVE SUMMARY

The index effect refers to the excess returns putatively associated with a security being added to, or removed from, a headline index.  Although it has been studied for decades, the index effect has received more attention in recent years amid the growth of passive investing and the accompanying speculation that stock returns may be affected by buying and selling pressures from index-tracking investors reacting to changes in index membership.

This paper analyzes S&P 500® additions and deletions from the start of 1995 to June 2021. We focus on the S&P 500 given it is the world’s most widely followed index—USD 13.5 trillion was indexed or benchmarked to the large-cap U.S. equity gauge at the end of 2020 —and so if the growth of passive investing contributed to an index effect, one might expect it to appear in S&P 500 additions and deletions.

Overall, our analysis corroborates the general consensus reflected in existing literature: the S&P 500 index effect seems to be in a structural decline (see Exhibit 1). Our analysis also suggests that an improvement in stock liquidity may help to explain the attenuation in the index effect over time.

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Returns, Values, and Outcomes: A Counterfactual History

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Craig Lazzara

Managing Director, Global Head of Index Investment Strategy

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Fei Mei Chan

Director, Index Investment Strategy

EXECUTIVE SUMMARY

  • Any analysis of investment policy or strategy must be based on historical data. Even if an analyst wants to extrapolate into the future (which we do not), extrapolations must start with the past.
  • But the historical data that we observe were not inevitable; history might have turned out differently than it actually did.
  • In this paper, we construct a counterfactual history of the last 40 years of U.S. equity returns, and explore what those histories could imply for investment policy.
  • Although the range of possible outcomes is quite wide, one consistent conclusion is that long-term investors in large-capitalization U.S. equities would have been advantaged by choosing passive rather than active management.

INTRODUCTION

We often write about equity markets and the potential implications of various investment strategy choices.  What are the implications of the choice between active and passive management? How have factor or “smart beta” strategies performed in various economic environments? What do market dynamics tell us about the investment opportunity set?

All of these questions, and others like them, are important, but all are questions about returns.  Investors, however, live not with a series of returns, but rather with portfolio values.  In this paper, we model the connection between returns and portfolio values over a long-term historical horizon.

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Limiting Risk Exposure with S&P Risk Control Indices

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Tianyin Cheng

Senior Director, Strategy Indices

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Claire Yi

Analyst, Strategy Indices

INTRODUCTION

The volatility seen during the Global Financial Crisis (GFC) in 2008 broke the calm that was present in financial markets from 2004 to early 2007.  Most asset classes experienced significant pullbacks, markets became volatile, and the correlation between asset classes increased significantly.  Portfolio construction based on the backward-looking correlation model failed, as the expected diversification benefit was eliminated precisely when it was needed the most.

In the aftermath of the GFC, institutional market participants with long-term investment horizons have responded with aversion to this volatility by considering a number of risk control strategies.  The risk control strategies adjust market exposure in inverse relation to risk to target a stable level of volatility in all market environments.  For institutional market participants with long-standing liabilities, which can range from defined benefit plans to variable annuities offered at insurance companies, a risk control strategy may provide a smoother path of asset returns (see Exhibit 1) and could more closely align the performance of the institution’s assets to the characteristics of its liabilities.

S&P Dow Jones Indices has developed a risk control framework through a series of risk control indices, which seek to measure various underlying equity- or futures-based indices at set risk levels.  S&P Dow Jones Indices’ risk control indices feature:

  • Globally accepted, independent underlying indices like the S&P 500, S&P 500 Low Volatility, and S&P 500 Dividend Aristocrats®;
  • Transparent methodology based on the underlying index’s historical volatility;
  • Measurements of risk, based on volatility, to help market participants control risk at a predefined level; and
  • Utilization of the same constituents as the underlying index.

S&P Dow Jones Indices has created a suite of risk control indices based on a large number of equity and thematic indices, along with the S&P GSCI® and the other commodity indices in its series (see the Appendix for a complete list).

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A Dynamic Multi-Asset Approach to Inflation Hedging

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Gaurav Sinha

Managing Director, Head of Americas Global Research & Design

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Lalit Ponnala

Director, Global Research & Design

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Jason Ye

Associate Director, Strategy Indices

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Fiona Boal

Head of Commodities and Real Assets

EXECUTIVE SUMMARY

Inflation is one of the most significant risks to investment returns over the long term. Core equities and conventional bonds tend to deliver below-average returns in rising inflation environments, which can encourage investors to seek out inflation-sensitive assets, such as commodities, inflation-linked bonds, REITs, natural resource stocks, and gold, to protect their portfolios from inflation shocks.

In this paper, we construct a multi-asset index for inflation protection.  First, we look into forecasting inflation.  Next, we analyze the inflation sensitivity of various asset classes.  Then, we identify strategies for different inflation regimes.  Finally, we present portfolios that adjust their allocation dynamically to changes in the inflation regime.

INTRODUCTION

As record levels of monetary and fiscal stimulus are pumped into the recovering global economy, inflation has returned to the discussion.  The low-inflation environment of the past few decades has penalized inflation-sensitive assets.  Given that inflation can be notoriously difficult to forecast, and market participants may experience unexpected inflation shocks, it is worthwhile to revisit the concept of inflation protection.

For many investors, the unprecedented and coordinated fiscal stimulus in the wake of the COVID-19 pandemic has justified concerns over inflation.  Neville et al. summarized four factors that suggest heightened inflation risk: (1) unprecedented increase in money creation, (2) historically high fiscal deficit level, (3) recent increase in long-term yields, and (4) the inflation derivatives market pricing in a 31% probability that the average inflation rate will exceed 3% over the next five years.

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