Dividend Strategy: Uncrowded Approach
Stock investment is a way to earn returns by assuming risks. However, from the perspective of everyone's financial needs, there is a desire to achieve certain returns with lower risk. So, is there a "high-cost-performance" way to take on risk in the market?
We find that a dividend strategy is a "high-cost-performance" strategy, providing relatively good historical returns both over the past two to three years and even extending to a decade, while its corresponding volatility and maximum drawdown are significantly lower than those of mainstream broad-based indices.
Taking the CSI Dividend Index as the representative of the dividend strategy, considering its dividend yield, we have used the total return index when comparing yields. The CSI Dividend Total Return Index has achieved a cumulative increase of 206.84% over the last decade (from August 26, 2014 to August 26, 2024), with an annualized return of 7.42%, significantly outperforming the 300, 500, and 800 yield indices, as well as the CSI Total Return. More importantly, the annualized volatility and maximum drawdown of the CSI Dividend Total Return Index are lower than those of these mainstream broad-based indices, achieving higher returns under the condition of accepting lower risk.
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Seeing the excellent historical performance of the dividend strategy, I believe everyone may want to ask two "soul-searching questions": 1) Given the robust performance of the dividend strategy in the past, can it continue to do so in the future? 2) What are some good ways to invest in dividend strategies?
The Dividend Strategy is Not Crowded
Regarding whether the dividend strategy is crowded, there are many differing opinions in the market. If the volatility of the market in recent years has taught us certain "truths," then the cyclical nature of investments is certainly one of them. Whenever a particular investment style or strategy proves to be extremely effective, it often signals the peak of that style. The pursuit of exceptional historical performance frequently leads to losses in the subsequent years.
So, is today's dividend strategy akin to the "core assets" before the Spring Festival of 2021, the "new energy" at the beginning of 2022, or the "small-cap style" at the end of 2023? We will attempt to answer this question from several angles.
First, we analyze from the perspective of valuation. The higher the relative valuation of a strategy, the greater the degree of crowding it implies. Currently, the TTM price-to-earnings ratio of the CSI Dividend Index is 7.37 times, located at the 42.13 percentile over the past decade, still within a reasonable or even low range.
Secondly, looking at the changes in the market environment, the A-share market is undergoing profound transformations. In the past, it was often criticized for being primarily a financing market that did not fundamentally reward shareholders. Over the last five years, the IPO scale of the A-share market reached 2.2 trillion, while refinancing and major shareholder reductions amounted to 3.8 trillion and 3 trillion respectively, causing the market to be in a state of "losing blood."
This year, with the slowdown of the IPO pace, the market has begun to encourage companies to distribute dividends from a regulatory perspective. Especially in the "National Nine Articles" introduced this year, dividend policies have been placed in an extremely important position. This signifies that the A-share market will fundamentally change, returning to small shareholders through dividends, and it is highly likely that the dividend strategy will continue to be mainstream in the coming years.
Finally, from the perspective of long-term win rates, the high win rate of the dividend strategy relative to broad-based indices remains stable and does not exhibit strong cyclical characteristics. Over the past decade from 2014 to now, the CSI Dividend Total Return Index has only experienced negative returns in 2016, 2018, and 2022, and aside from 2018, the declines in other years were all under 5%, demonstrating a very high absolute return win rate.
In terms of relative returns, the CSI Dividend Index has outperformed the 300, 500, and 800 yield indices in six out of the last ten years. Except for the bull market of "core assets" in 2019 and 2020, it has exhibited high relative returns at all other times.
Of course, as value investors, we need to contemplate the first principles of value sources. So what are the first principles of the effectiveness of the dividend strategy?
The First Principle of the Dividend Strategy is Value Investing
In terms of what constitutes value investing, Graham clearly defined it in his book "Security Analysis": the return on an asset is based on the discounted cash flows over the long term. Graham emphasized the importance of assessing an asset’s cash flow, going as far as to assert that intrinsic value must stem from obvious values like dividends and coupon interest. Furthermore, any assessment of an asset's price should rest on very conservative assumptions.
Buffett later refined the concept of value investing by introducing three major ideas: the economic moat (the ability to generate cash flows), the durability of earnings (the capacity to generate consistent profits), and the steward of the investors’ interests (management aligned with shareholder interests).
The key indicator corresponding to the dividend strategy is the dividend yield, which reflects five fundamental factors about a company:
1) Companies that can consistently maintain a high dividend yield indicate stable profits and a cash flow generation capability, which correlates to Buffett's economic moat;
2) Companies willing to distribute dividends are typically of higher quality and possess a business model that does not require heavy capital expenditures, often regarded as good businesses;
3) Companies capable of disbursing dividends typically maintain healthy balance sheets;
4) Companies willing to pay dividends usually have better governance structures. Their management prioritizes shareholder interests and avoids actions that harm minority shareholders, which aligns with Buffett's concept of a principled duke;
5) Companies with higher dividend yields are often undervalued. When a company's evaluation rises, its dividend yield naturally falls.
Thus, the dividend strategy is not merely a style, but rather an essence rooted in value investing. This allows the dividend strategy to effectively provide excess returns over a longer duration.
Proactively Deconstructing Dividend Strategy Investment Plans
So from the perspective of holders, what are some good ways to invest in dividend strategies?
One simple method is to invest through dividend-themed ETFs. This year, several ETFs tracking dividend strategies have been launched in the market to meet holders' needs for dividend asset investments. From our previous analysis, it is evident that the CSI Dividend Total Return Index not only exhibits a high absolute return win rate but also offers a relatively high excess return win rate compared to other broad indices. Therefore, ETFs tracking the CSI Dividend Index are likely to perform well.
Of course, we also see more proactive dividend strategy investment methods, where fund managers actively select stocks to provide diverse solutions for holders with different needs. We also note that the pioneers of the dividend strategy were active stock-picking fund managers like Graham and Buffett. Over time, this concept was broken down by smart beta strategies into passive indices.
Penghua Fund offers a different solution by deconstructing the sources of dividend strategy returns and analyzing fund manager attribution, providing a multi-tier selection of active fund managers for different investment goals: Wu Xuan, focusing on deep value; Yuan Hang, representing balanced value; and Fan Jingwei, focusing on dividend enhancement.
For fund holders, the crucial point in selecting an actively managed equity fund is that the fund must outperform the index. As mentioned earlier, the long-term performance of the CSI Dividend Index is outstanding; so, have these three fund managers from Penghua Fund actually outperformed the index?
First is Wu Xuan from the deep value camp. His longest-managed fund, Penghua Shengtai Innovation, achieved an annualized return of 12.10% over 12 years, outperforming the CSI Dividend Index with its 10.65% annualized return, and with a lower maximum drawdown. Since 2019, we can see that Wu Xuan has significantly outperformed the CSI Dividend Index.
Next is Yuan Hang from the balanced value camp. He has managed Penghua Strategy Optimal for nine years, achieving an annualized return of 6.05%, slightly outperforming the CSI Dividend Index's 5.11% annualized return (Note: Yuan Hang's managed products have a high market placement, which might reflect lower annualized rates). Due to Yuan Hang's balanced approach, his excess returns were primarily concentrated in the 2019-2020 period.
Lastly, from the dividend enhancement camp, we have Fan Jingwei, who began his career in bond investing and has not managed equity funds for long. In less than a year, his fund Penghua Hongyi Hybrid has significantly outperformed the CSI Dividend Index, achieving over 22% absolute returns, making it one of the best-performing equity funds in the market this year.
From the comparisons above, it is evident that all three fund managers from Penghua Fund have outperformed the CSI Dividend Index. They are seasoned investment veterans who have long adopted the framework of dividend strategy. However, due to differences in their growth paths, personalities, and circles of competence, they have each developed unique approaches to dividend strategy investment, resulting in different product net value curves. This provides tailored solutions for investors with diverse needs.
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