Analysis of the Effectiveness of Low-Volatility Dividend Strategies
Historical experience indicates that low-volatility dividend-paying assets have a high probability of achieving excess returns over long cycles.
Regulatory policies are increasingly focused on protecting investor interests, with a continuous increase in dividend payout ratios and the strengthening of long-term capital forces, all of which enhance the attractiveness of low-volatility dividend assets.
Since 2024, the low-volatility dividend strategy has generally achieved good investment returns, but a drawdown began in July, and the internal differentiation of low-volatility dividend constituent stocks has intensified, with sectors like banking and electricity continuing to lead the gains, while sectors like coal and petroleum and petrochemicals have performed weakly.
Advertisement
In the face of adjustments in low-volatility dividend assets, the market has started to question the long-term effectiveness of the low-volatility dividend strategy.
Historical performance generally suggests that low-volatility dividend assets, with defensive attributes such as continuous dividends, low volatility, and good liquidity, can only achieve significant relative returns during rapid market downturns or periods of market consolidation.
In fact, looking at a longer historical timeline, although low-volatility dividend assets have periods where they underperform the market, they have a high probability of achieving excess returns over long cycles.
From July 31, 2006, to July 31, 2024, the S&P China A-Share Low Volatility Dividend Index has accumulated a gain of 621.27%, significantly outperforming the CSI 300 by nearly 464.66 percentage points.
On an annual basis, the annualized return of the S&P China A-Share Low Volatility Dividend Index reached 11.94%, with a win rate close to 70% relative to the CSI 300.
Since 2021, the relative advantage of the low-volatility dividend strategy has become more pronounced, not only being able to withstand the impact of market downturns but also with some low-volatility dividend indices achieving significant absolute returns.
Especially during the sharp market decline before the Spring Festival in 2024, low-volatility dividend assets demonstrated very strong defensive attributes.
During the period from January 2 to February 5, 2024, the CSI 300 and the Shanghai Composite Index fell by 6.7% and 9.2% respectively, while the CSI Low Volatility Dividend Index rose by 3.3% against the trend.
The excess return of the CSI Low Volatility Dividend Index over the CSI 300 reached a peak of 15.7% in mid-April and has since remained in double digits.
As of July 31, 2024, the cumulative return of the Shanghai Low Volatility Dividend Index since the beginning of the year was 15.56%, and the cumulative return of the Low Volatility Dividend Total Return Index for the year was 12.70%, respectively 15.24 percentage points and 12.38 percentage points higher than the same period of the CSI 300.
Looking at overseas experience, the low-volatility dividend strategy can achieve excess returns over the long term in specific macroeconomic environments.
Taking Japan as an example, during the period from 1990 to 2012, the Nikkei 225 Index continued to decline, but the Japan High Dividend Index went against the trend and achieved excess returns over a considerable long cycle.
In terms of annual investment returns, from 1990 to 2023, the average annual return of the MSCI Japan High Dividend Index was 5.49%, while the average annual return of the Nikkei 225 was only 2.02%, with an average annual excess return of 3.47% and a win rate of 71%.
During this period, Japan faced a series of issues such as the economy entering a low-speed growth state, the collapse of asset bubbles, and the decline of private balance sheets, which led to a significant increase in the market's demand for safe-haven assets, with long-term government bonds being favored, supporting the continued outperformance of low-volatility dividend assets relative to the market.
From an industry perspective, at that time, some traditional Japanese companies' willingness to pay dividends or repurchase shares continued to rise, which also supported the counter-trend strength of high dividend assets in Japan.
In investment practice, the low-volatility dividend strategy pays more attention to individual stocks with high dividend levels and low volatility, which is a compound investment strategy combining the dividend strategy and the low-volatility strategy.
The dividend strategy and the low-volatility strategy improve the stability of the investment portfolio from the revenue and risk ends, respectively, to obtain a "stable dividend premium."
The core of the dividend strategy lies in selecting stocks with high dividend yields, and the dividend yield is the ratio of dividends per share to stock price, so the company's profitability, dividend capacity, and valuation level jointly determine the dividend yield level.
Stable profitability is the foundation for listed companies to pay dividends, the dividend ratio is a manifestation of the company's willingness to pay dividends, and undervalued stock prices are the guarantee for high dividend yields.
By comparing the historical net profit growth rate of the mother company's shareholders between the CSI Low Volatility Dividend Index and the CSI All-Share Index, it can be found that the profit performance of the low-volatility dividend index is more stable.
From the first quarter of 2013 to the first quarter of 2024, the volatility of the quarterly net profit growth rate of the CSI Low Volatility Dividend Index was only 6.96%, while the corresponding volatility of the CSI All-Share Index was 12.90%.
Especially when the economic growth rate has significant fluctuations, the profit performance of the low-volatility dividend index is more stable, which also ensures the continuity and certainty of its dividends.
The income of the dividend strategy can be divided into dividend payments and capital gains.
On the one hand, it can obtain a stable and certain safety cushion through continuous dividends from enterprises over a long cycle, and on the other hand, it can also seek profit from valuation repair or undervalued defensive attributes through market value underestimation, thus building the long-term effectiveness of the dividend strategy.
By breaking down the composition of the returns of the CSI Low Volatility Dividend Index from 2013 to July 31, 2024, over more than a decade, it can be seen that the cumulative return of the low-volatility dividend index was 142.5%, and the cumulative return of the low-volatility dividend total return index was 307.2%, which also means that the cumulative return of dividend reinvestment reached 164.7%, and the dividend income far exceeds the capital gains, with an annualized dividend rate that can reach more than 4%.
The core of the low-volatility strategy is to select stocks with low stock price volatility, and to enhance the safety of investment returns by improving the stability of listed companies' stock prices.
The low-volatility strategy has the characteristics of reducing risk, reducing drawdowns, and relatively stable returns, which helps to maintain a relatively stable performance in market fluctuations.
Taking the CSI Low Volatility Dividend Index as an example, its constituent stocks are mainly low-volatility banks, transportation, and public utilities, and these three industries account for more than 50% of the CSI Low Volatility Dividend Index.
Despite the long-term effective underlying investment logic of the low-volatility dividend strategy, the market's attention to low-volatility dividend assets is not high, limited to the investment preferences of specific institutional investors.
In 2023, the attention to the low-volatility dividend strategy has suddenly increased, and the scale of public funds that take this strategy as an investment strategy has grown explosively.
Among them, the scale of low-volatility dividend ETFs expanded from 15.18 billion yuan in 2022 to 196.31 billion yuan in 2023.
There are several catalytic factors for the increased attention to the low-volatility dividend strategy: the effectiveness of the prosperity investment strategy has declined.
The mainstream investment methods in the market are roughly divided into three major categories.
The first is the most popular prosperity investment strategy, which is not very sensitive to valuation but has strict requirements for performance growth rate, that is, to "digest" high valuation through high performance growth.
The second is the PB-ROE strategy, which emphasizes the "matching degree" between valuation and profitability and is more sensitive to valuation.
The last is the deep value strategy, which is extremely sensitive to valuation and aims to discover low-valuation targets that have been "misunderstood" by the market.
Since 2022, there has been a significant change in the market investment framework, and the effectiveness of the prosperity investment strategy has continued to decline, and the performance of high-growth segments has been poor.
Against the background of the downward trend in long-term interest rates and asset scarcity, the return expectation of the capital market has weakened, and the capital allocation tends to be safer and more stable assets.
Low-volatility dividend assets, with their "bond-like" attributes and significant excess returns, have become more concerned by the market, and the allocation of funds has accelerated since the end of last year.
Regulatory policies in the capital market pay more attention to protecting investor interests, and the dividend payout ratio continues to increase.
The new "Nine Articles" released in April strengthened the supervision of cash dividends of listed companies, "increasing the incentive for high-quality dividend companies, and taking multiple measures to promote the improvement of dividend rates.
Enhance the stability, continuity, and predictability of dividends."
At the end of 2023, the total dividend of A-share listed companies reached 1.93 trillion yuan, and the dividend payout ratio was 33.95%, both of which set historical highs.
Stable dividend expectations provide a solid foundation for the low-volatility dividend strategy to achieve returns.
The strength of long-term capital forces has increased, and the demand for bond-like assets has increased.
In recent years, promoting the entry of various medium and long-term funds into the market has always been a key task in the construction of the capital market.
The new "Nine Articles" clearly proposed to "establish a market ecology that cultivates long-term investment, improve the basic system that adapts to long-term investment, and build a policy system that supports 'long money for long-term investment'."
Under the encouragement of policies, the actions of insurance funds, social security, and "national teams" to increase their holdings and enter the market continue, and medium and long-term funds enter the market quickly.
At the same time, due to the continuous decline in the scale of new funds and the continuous outflow of foreign capital, the market's characteristic of stock competition is obvious, and "long money" represented by insurance funds has become an important marginal pricing fund.
Since low-volatility dividend assets can provide stable cash dividends, they are in line with the long-term stable income needs of insurance funds and have become an important direction for "long money" to allocate.
Looking forward to the future, the characteristics of the medium and long-term macroeconomic fundamentals make the low-volatility dividend strategy still attractive for investment, especially after the low-volatility dividend assets have undergone a period of adjustment, the short-term chip pressure has been released, and the cost-effectiveness of the configuration has been repaired.
In a low-interest-rate environment, the difficulty of asset-liability matching for asset management institutions represented by insurance companies has increased.
As long-term funds pursuing stable and sustainable returns, the allocation of insurance funds to low-volatility dividend assets will be a long-term, continuous, and gradual process, and the allocation demand of "long money" is expected to continue to bring incremental funds to low-volatility dividend assets.
Finally, the Federal Reserve is likely to start a new round of interest rate cuts in September, and the domestic monetary policy space is expected to open up, and the possibility of further interest rate declines has increased, making the relative yield of low-volatility dividend assets more competitive than government bonds.