The past couple of years were prosperous year for many investors. The S&P 500 delivered a gain of 12% in 2016 and 21.8% in 2017. The S&P/TSX Composite performed admirably as well, with a 21.1% 2016 return followed by 9.1% in 2017. However, when concerning the stock market, what comes up usually must come down. So far this year, we have observed declines of 10.1% and 8.4% for the S&P 500 and S&P/TSX Composite, respectively, in a period of just a few weeks. Stock market corrections are often associated with increased volatility. The VIX Index, which measures stock market implied volatility, saw its largest one-day rise in history last month. The VIX is also used as a general investor fear gauge, so the current higher levels indicate an increased consensus of investor anxiety. Even with recent speculation on VIX index manipulation, a pattern still seems to hold more times than not in which increased levels on the VIX comes with declines in stocks, as so the case with market turmoil in February.
Although equities have recovered somewhat since the dip last month, some experts believe increased volatility won’t be going away anytime soon. This does not necessarily mean investors should stay out of the market. Rewarding stock returns are still possible, albeit the current environment may deliver larger swings in your portfolio. However, if volatility is something you are especially concerned with, you have opportunities to mitigate that risk.
Last year I wrote about how investing in low beta stocks with dividends can help to alleviate undesirable portfolio volatility. Low beta stocks have historically exhibited lower price movement swings than others. These investments can sometimes be on the “boring” side vs. other, trendier and hot-topic stocks. However, boring can be ever more beneficial in times of increased stock market uncertainty, and that protection, can be at least satisfying even if its not exciting.
Today we revisit that strategy and its latest portfolio. The following criteria is used for the strategy’s stock picks:
- Expected dividend growth (higher values scored better)
- 5 year normalized dividend growth (higher values scored better)
- Dividend yield of at least 1%
- Beta of 0.75 or lower (a value below 1 would indicate the stock is less volatile than the market)
I back-tested the strategy using Morningstar CPMS from February 2007, to February 2018. During this process, a maximum of 15 stocks were purchased and equally weighted with a maximum of four stocks per sector to ensure a degree of diversification. Annually, the portfolio would be replaced with the newest and best stocks based on the strategy’s criteria. Over this period, the strategy produced an annualized total return of 12.7% while the S&P/TSX composite total return index advanced 4.9%. Downside deviation (a measure for volatility of negative returns) for the strategy was 5.3% vs. 9.5% for the S&P/TSX Composite. The lower the downside deviation indicates a lower history of “bad” volatility.
You can find the strategy’s latest 15 stock picks below based on February month-end data.
|Rank||Symbol||Company||Sector||5Y Dividend Growth Rate||Yield||Expected Dividend Growth||BETA||Market Cap (in $millions)|
|1||MFI||Maple Leaf Foods Inc.||Consumer Staples||33.5%||1.6%||18.2%||0.59||$4,109|
|2||GIL||Gildan Activewear||Consumer Discretionary||28.3%||1.5%||19.8%||0.58||$8,159|
|3||HWD||Hardwoods Dist. Inc.||Industrials||20.4%||1.5%||16.0%||0.45||$406|
|4||MRU||Metro Inc.||Consumer Staples||19.2%||1.8%||10.8%||-0.07||$9,218|
|6||CTC.A||Cdn Tire Corp. Ltd.||Consumer Discretionary||17.4%||2.1%||38.5%||0.74||$11,552|
|7||BIP.UN||Brookfield Inf Partner||Utilities||20.7%||4.6%||8.0%||0.64||$14,274|
|8||CGO||COGECO Inc.||Consumer Discretionary||15.6%||2.2%||10.6%||0.64||$1,053|
|9||NFI||New Flyer Industries||Industrials||12.5%||2.3%||15.6%||0.20||$3,587|
|10||BAM.A||Brookfield Asset Mgmt||Financials||18.0%||1.5%||7.1%||0.67||$49,246|
|11||CU||Cdn Utilities Ltd., A||Utilities||10.2%||4.6%||10.0%||0.52||$9,188|
|12||IIP.UN||InterRent REIT||Real Estate||10.1%||2.8%||9.1%||0.59||$806|
|13||IFC||Intact Financial Corp.||Financials||9.8%||2.8%||9.4%||0.49||$13,815|
A Word of Warning
The performance results are impressive, but they are based on a back-test, which comes with settings not likely replicated in real-life, such as transacting on closing day prices and no trading fees. Also, the strategy buys stocks for its portfolio then essentially goes to sleep for a year before transacting again. In real-life, you would likely pay regular attention to news on stocks that you own and ensure that conditions of those companies are worthy for investment based on other criteria you find worthy.
As always, past performance (back-tested or real life) may not be indicative of future results. However, I believe these types of investments are good candidates for your portfolio in times of elevated stock market volatility.
Michael Pe, CFA is an Institutional Product Specialist at Morningstar Research Inc.
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