With U.S. stocks near record highs, some investors may be thinking the eight-year bull market can continue for longer, especially under a new administration with a pro-business agenda.
Investors are “under-reacting to potential risks,” says James Norman, president of QS Investors. That can lead to poor decision making because “people tend to sell at the bottom,” he said in an interview April 11.
Norman favors a strategy of selecting stocks with relatively high dividends that are well-supported by profits, with relatively low price volatility. Lower price volatility can not only help ease investors’ fear during down markets, but it can also preserve capital to take advantage of subsequent market recoveries, he said.
QS Investors is a subsidiary of Legg Mason Inc.
in New York and manages about $16.6 billion using various strategies for institutions, mutual funds and exchange traded funds.
In the interview, Norman focused on the Legg Mason Low-Volatility High-Dividend ETF
which was started in December 2015 and has $128 million in assets. That’s not a long time to establish a track record, but this chart, showing total return against the benchmark S&P 500
since the end of 2015, is an eye-opener:
You can see that, not only has the ETF outperformed the index, but it has also fared better during periods of declines. The ETF’s beta, for example, is 0.52, compared with 1 for the market index. A beta of less than 1 means that a security is theoretically less volatile than the market.
The ETF has a 30-day yield of 2.88%, which is a reasonably attractive figure when considering that Norman is seeking low volatility when selecting stocks and that 10-year U.S. Treasury notes
are yielding about 2.3%.
Here are the fund’s top 10 holdings (of 79) as of April 10:
|Company||Ticker||Industry||Dividend yield||Share of portfolio|
|Darden Restaurants Inc.||DRI, -0.63%||Restaurants||2.71%||3.0%|
|Philip Morris International Inc.||PM, -0.63%||Tobacco||3.68%||2.8%|
|Boeing Co.||BA, -0.24%||Aerospace & Defense||3.20%||2.7%|
|Eaton Corp. PLC||ETN, -0.98%||Electrical Products||3.17%||2.7%|
|International Business Machines Corp.||IBM, -0.66%||Information Technology Services||3.27%||2.7%|
|McDonald’s Corp.||MCD, -0.38%||Restaurants||2.89%||2.7%|
|Reynolds American Inc.||RAI, -0.36%||Tobacco||3.21%||2.7%|
|Altria Group Inc.||MO, -1.19%||Tobacco||3.40%||2.7%|
|PepsiCo Inc.||PEP, -0.82%||Beverages: Non-alcoholic||2.69%||2.6%|
|Cisco Systems Inc.||CSCO, -0.61%||Computer Communications||3.51%||2.6%|
|Sources: Morningstar, FactSet|
Valuation and complacency
This chart shows the ratio of price to trailing 12-month earnings for the S&P 500 over the past 10 years:
The index is close to 20 times trailing earnings today, up from only 8.4 times when the market bottomed in March 2009, the low point in the bear market and the beginning of the bull market.
“One might argue stocks were undervalued in 2009, but that they are fully or overvalued now,” Norman said.
That’s especially true after Donald Trump was elected president. Since Election Day, the S&P 500 has risen 11% on optimism the new administration will lower taxes, help pass an infrastructure bill and reduce regulations on companies.
Still, if there would be a 20% drop in the stock market — the definition of a bear market — how would you react? If you have a strong stomach and sleep soundly even during times of turmoil, as you continue to pour money into the market through regular contributions to an employer-sponsored retirement account, there may be nothing to worry about. But if seeing the value of your investments plunge is painful for you, a low-volatility approach is something to consider.