In This List

Blending Low Volatility with Dividend Yield in the China A-Share Market

Making STRIDEs in Evaluating the Performance of Retirement Solutions

A Look Inside Green Bonds: Combining Sustainability with Core Fixed Income

A Tale of Two Small-Cap Benchmarks: 10 Years Later

Should Municipal Bonds be Considered "Core"?

Blending Low Volatility with Dividend Yield in the China A-Share Market

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Priscilla Luk

Managing Director, Global Research & Design, APAC

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Liyu Zeng

Director, Global Research & Design

EXECUTIVE SUMMARY

This paper examines the potential benefits of blending high dividend and low volatility strategies in the China A-share large-cap equity market.

  • Excluding high volatility stocks from a high-dividend-yield portfolio may reduce portfolio volatility and improve portfolio returns on a risk-adjusted basis.
  • The S&P China A-Share LargeCap Low Volatility High Dividend 50 Index overlays a low volatility screen on high dividend stocks. For the period from Jan. 31, 2009, to June 28, 2019, the index delivered pronounced excess returns on an absolute and risk-adjusted basis.
  • This index delivered a stable source of income from dividends and showed defensive qualities, with reduced drawdown during down markets.
  • The active exposure to dividend yield, low volatility, and value factors contributed most to the active returns, while the sector allocation bias accounted for most of the active risk for the index.

INTRODUCTION

Dividend investment is a popular investment strategy among incomeseeking market participants. Since they were first launched in 2003, dividend ETFs with diverse designs have proliferated across regions of varied characteristics.

In September 2012, S&P Dow Jones Indices launched the S&P 500® Low Volatility High Dividend Index. It uses a unique, rule-based dividend strategy that is designed to combine high dividend yield and low return volatility in a single index. Compared with pure dividend-yield-based strategies, this index has been shown to provide enhanced risk-adjusted performance and incremental defensiveness, which can be particularly attractive to conservative investors.

In the following sections, we examine the effectiveness of a low volatility high dividend yield strategy in the China A-share large-cap equity market, based on companies in the S&P China A Domestic LargeCap Index. We also demonstrate indexing implementation of this strategy using the S&P China A-Share LargeCap Low Volatility High Dividend 50 Index.

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Making STRIDEs in Evaluating the Performance of Retirement Solutions

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Smita Chirputkar

Director, Global Research & Design

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Philip Murphy

Managing Director, Global Head of Index Governance

EXECUTIVE SUMMARY

The S&P Shift to Retirement Income and Decumulation (STRIDE) Index Series incorporates an innovative risk management framework focused on providing increasing levels of clarity and stability around sustainable annual consumption in retirement. This paper tests S&P STRIDE’s approach to consumption risk management and asset allocation over the period from 2003 to 2018 for a hypothetical cohort of 2010 retirees by comparing the S&P STRIDE Glide Path 2010 Index Total Return to the average 2010 target date fund (TDF). Our main findings are as follows.

  • The risk management approach employed by S&P STRIDE would have helped reduce uncertainty about retirement income through a period of variable interest rates, inflation, and market returns. In particular, we show how the risk management component of the S&P STRIDE Index can provide clarity and stability around affordable future consumption prior to and into retirement. The approach aims to help retirement plan participants seamlessly transition from accumulation to retirement.
  • The risk management strategy can be used to reduce the impact of market, inflation, interest rate, and sequencing risks on retirement consumption.
  • In contrast, we find that an industry average of traditional 2010 TDFs exhibited high variability in terms of retirement consumption over the period. Estimates of affordable consumption from such a strategy were highly sensitive to market risk, interest rates, and inflation. As a result, these strategies demonstrated large fluctuations in the level of expected retirement consumption over the period.
  • INTRODUCTION

    Retirement can mean different things to different people. For some, retirement means a complete stop from working. For others, it means ending a professional career in pursuit of something new. Regardless of the definition, retirement normally marks the point when the primary source of income ends and savers begin to rely on their accumulated balances to maintain their standard of living. Therefore, in the context of retirement, a primary goal is often to be able to sustain an inflation-adjusted stream of income, or a level of consumption associated with a standard of living, throughout retirement and to have relevant and meaningful information about what that level of sustainable consumption stream is before and throughout retirement.

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A Look Inside Green Bonds: Combining Sustainability with Core Fixed Income

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Kevin Horan

Director, Fixed Income Indices

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Hong Xie

Senior Director, Global Research & Design

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Aye Soe

Managing Director, Global Head of Product Management

In recent years, an increasing number of market participants have shown interest in sustainability-driven investing and have started to incorporate elements of environmental, social, and governance (ESG) factors in their investment processes. Various rationales have been given for the inclusion of these factors.

The first rationale is that from a risk/return perspective, companies that consider impact investing and ESG practices associated with their business activities are likely to be ahead of their peers. From an environmental standpoint, actively managing a portfolio’s footprint may help decrease exposure to companies that may face legal and reputational risks and provide a hedge against future regulatory changes. For example, as the world transitions to a low-carbon economy, organizations that have been proactive will be better positioned to adapt to new regulations, innovation, or a shift in consumer appetite.

The second rationale for investing in these types of companies comes from social or personal values and goals. These investors aim to create portfolios that balance financial returns within the scope of mission objectives.

No matter the rationale, there is a wide range of options for fixed income market participants to navigate. A common approach to navigating among these options has been to rely on evaluation metrics, or ratings that measure the ESG impact of companies’ operations, and overlaying the score onto assets. The main challenge of this approach is that currently there is no clear standard of measurement in the market.

Researchers at MIT who worked on the Aggregate Confusion Project found that when they compare “two of the top five ESG rating agencies and compute the rank correlation across firms in a particular year, we are likely to obtain a correlation of the order of 10 to 15 percent. At least the correlation is positive! It is very likely (about 5 to 10 percent of the firms) that the firm that is in the top 5 percent for one rating agency belongs to the bottom 20 percent for the other.”

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A Tale of Two Small-Cap Benchmarks: 10 Years Later

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Bill Hao

Director, Global Research & Design

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Phillip Brzenk

Senior Director, Strategy Indices

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Aye Soe

Managing Director, Global Head of Product Management

INTRODUCTION

Indices play a multifaceted role in investment management. Passive investors use indexed-linked investment products to gain exposure to particular investment universes, market segments, or strategies. Active investors use indices as benchmarks to compare actively managed funds to indices representing the active portfolio. Indices can also serve as proxies for asset class returns in formulating policy portfolios.

If indices can represent passively implemented returns in a given universe, then the risk/return profiles among various indices in the same universe should be similar. In large-cap U.S. equities, the S&P 500® and Russell 1000 have had similar risk/return profiles (9.65% versus 9.73% per year, respectively, since Dec. 31, 1993). However, in the small-cap universe, the returns of the Russell 2000 and the S&P SmallCap 600® have been notably different historically. Since year-end 1993, the S&P SmallCap 600 has returned 10.44% per year, while the Russell 2000 has returned 8.78%. In addition, the S&P SmallCap 600 has also exhibited lower volatility.

A study performed by S&P Dow Jones Indices (S&P DJI) in 2009 (Dash and Soe) showed that return differences were primarily due to the inclusion of a profitability factor embedded in the S&P SmallCap 600. A later update of the study in 2014 (Brzenk and Soe) confirmed the continuing existence of the quality premium.

This paper renews the study now that 10 years have passed since our original paper. In addition to the profitability criteria, we also extend the analysis to two additional index inclusion criteria—liquidity and public float—that are present in the S&P SmallCap 600 but absent in the Russell 2000. Our paper shows that all else equal, U.S. small-cap companies with higher profitability, higher liquidity, and higher investability tend to earn higher returns than those with lower profitability, liquidity, and investability. Observed together, these characteristics explain the potential performance advantage of the S&P SmallCap 600.

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Should Municipal Bonds be Considered "Core"?

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Jason Giordano

Associate Director, Strategy Indices

In the current financial environment, the often misunderstood municipal bond market is not considered to be a “core” asset class by many investors, nor is it labeled as such by institutions offering financial products to investors. However, it could be argued that investment-grade municipal bonds meet some qualifications to be “core.”

In this paper, we have examined some of the reasons U.S. investmentgrade municipal bonds could be considered a “core” asset class.

LARGE AND DIVERSE MARKET

According to the Securities Industry and Financial Markets Association (SIFMA), the municipal bond market had over USD 3.7 trillion outstanding as of June 2019. There are approximately 1.6 million different municipal bonds outstanding, from tens of thousands of different issuers.

HIGH QUALITY

The average rating (from Moody's, S&P Global Ratings, or Fitch) of investment-grade bonds in the S&P National AMT-Free Municipal Bond Index is higher than the average rating of bonds in the S&P U.S. Investment Grade Corporate Bond Index. The low interest rate environment following the global financial crisis spurred many corporations to take on more leverage. As a result, the composition of the U.S. investment-grade corporate bond market changed dramatically—as of July 31, 2019, over 55% of the U.S. investment-grade corporate bond market was BBB-rated. Exhibit 1 compares the credit profile of the investmentgrade municipal bond market to the U.S. investment-grade corporate market.

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