Investing in “Dividend Aristocrats”. Taking advantage of US stock prices

 Written by:  Mutsumi Kagawa (Chief Global Strategist, Economic Research Institute of Rakuten Securities)



1. Forecasted PER of S&P 500 dropped to around 16 folds due to fallen stock price

Since May 18, the S&P 500 Index’s volatility has increased whereby it fell below the milestone of 4000 points (May 25). According to the latest fund manager survey conducted by the major US bank (BofA) (published on May 17), the FM’s average cash ratio in May was 6.1%, the highest since September 2001. Many institutional investors became more cautious regarding the slowing global economic growth outlook and stagflation (simultaneous inflation and stagnation); hence anticipating further risk of falling stock prices. However, the cash ratio has risen to the April 2020 level, indicating that investors may have already sold their stocks, therefore the contrarian indicator suggesting an oversold situation. In fact, the S&P 500 index hit a year-to-date low on the May 19 last week. When the rate of decline from the record high (closing price on Jan 3: 4796.56) reached 18.7% (closing price: 3907.79), the forecasted PER (price-earnings ratio) fell to the 16x level, making it more affordable. Chart 1 shows the PER forecast of the S&P 500 Index since 2011 (about the last 10 years). Looking back on long-term weekly data, the arithmetic mean of the forecast PER during the same period is 16.9x, and “± 1σ (standard deviation)” (range with the occurrence probability of about 70%) ranged between  13.8x and 19.9x. The PER forecast as of the May 20 fell to 16.6x, cheaper than in 2020, which was more than 24x, and in 2021, which was around 22x.


<Chart 1: The US stocks are getting less overpriced due to the decline in PER>

(Source) Created by Economic Research Institute of Rakuten Securities, Inc. from Bloomberg (Beginning of 2011 – May 20, 2022/ weekly)


2. Focus on the relative performance of the Dividend Aristocrats Index:

While the stock market is making correction, I would like to focus on the performance advantage of the US S&P Dividend Aristocrats Index from a long-term perspective. The Dividend Aristocrats Index consists of “excellent stocks that have continued to increase dividends for over 25 years” (currently 64 stocks: selected by S&P Global) among the S&P 500 Index stocks (major companies). Chart 2 shows a comparison in the total earnings indexes (total return indexes including dividends) of the Dividend Aristocrats Index, the S&P 500 Index (US market average) and TOPIX (Japanese market average) from year 2000 as 100.  The Dividend Aristocrats Index’s total earnings index has clearly outperformed the total earning indexes of the S&P 500 Index and TOPIX. Since 2000, the US economy has stagnated for several times. It entered recessions after the collapsed of the IT bubble in 2000, during the financial crisis in 2008 and the pandemic crisis in 2020. With this, it shows that the group of companies (Dividend Aristocrats Index) remained stable while increasing dividend payouts every year (every term) although the business environment deteriorates temporarily, demanded a premium market valuations. It is likely that the market will continue to rate “a company that has continued to increase dividend payouts seamlessly” as “a company that practices management that emphasizes shareholder returns.”


<Chart 2: The long-term relative performance of the Dividend Aristocrats Index is outstanding>

(Source) Created by Economic Research Institute of Rakuten Securities, Inc. from Bloomberg (Beginning of 2000 – May 20, 2022)


3. What is the specific investment strategy for “Dividend Aristocrats”?

Chart 3 displays the key stocks of the Dividend Aristocrats Index (top 10 by market capitalization). Many of these “stocks that continuously increasing dividend payouts for long-term” are categorized to stable growth sector (industry) whereby their brand name is well known in the world. In particular, stocks such as Johnson & Johnson (JNJ), Procter & Gamble (PG), Coca-Cola (KO), PepsiCo (PEP), McDonald’s (MCD), etc. standout as stable growth companies with high brand strength among “stocks that have been increasing dividends for more than 40 years in a row.” Kao (TSE code: 4452), which has been increasing dividend payouts for 32 consecutive terms, is the only stock listed on the Tokyo Stock Exchange that deserves the name of “Dividend Aristocrat” (a company that has dividend growths for 25 consecutive years or more). I would like to focus on the group of companies that have “a track record of steadily increasing dividends every year (every term) regardless of the business environment” when the whole stock market has collapsed and is volatile.


<Chart 3> Check the major stocks in the Dividend Aristocrats Index

*Forecast PER and forecast dividend yield are average market forecasts

(Source) Created by Economic Research Institute of Rakuten Securities, Inc. from Bloomberg (May 25, 2022)


In addition to the above-mentioned method of investing in individual stocks that have a proven track record in continuous dividend increases, there is also a method of investing in “ETFs (Exchange Traded Funds) that make widespread diversified investments in stocks with continuous dividend increases.” For example, the US-registered ETF “Vanguard US Dividend Appreciation ETF” (ticker symbol: VIG) is an ETF managed with the objective of achieving investment results linked to “stock index consisting of large and medium-sized stocks that have been increasing dividend payouts for more than 10 years in a row” (S&P US Dividend Growers Index) (Chart 4). The ETF is a “performance-based distribution fund” that pays beneficiaries a quarterly dividend (aggregated from each stock’s dividends). The fund has 292 stocks, with the top 10 stocks being Microsoft (MSFT), UnitedHealth Group (UNH), Johnson & Johnson (JNJ), Procter & Gamble (PG), JPMorgan Chase & Co. (JPM), Visa (V), Home Depot (HD), Master Card (MA), Coca-Cola (KO) and PepsiCo (PEP) (Source: Bloomberg). By purchasing such ETFs and practicing diversified investment, you can incorporate a “portfolio that holds a wide range of stocks with high expectations for continuous dividend increases” into asset formation.


<Chart 4>   Some US-registered ETFs make diversified investments in stocks with consecutive dividend increases

(Source) Created by Economic Research Institute of Rakuten Securities, Inc. from Bloomberg (End of Apr 2022 (monthly))