As I was flipping through charts yesterday morning three ETFs in particular really stood out to me for a few specific reasons. As part of my morning routine, I analyze all of the major dividend ETFs to identify any divergences or price action that may be a leading indicator of near-term performance. First of all, it's not uncommon for divergences to present themselves especially in the mature stages of a bull market, and comparing markets on opposite sides of the globe from each other is hardly an apples-to-apples comparison. But for income investors that might be beginning to take profits on companies or sectors they own that are stretched far in excess of their respective fundamental norms, this could be an area to deploy that cash at good relative valuations. That way investors that depend on keeping a high exposure to dividend equities for their generous yield won't need to forgo any income in the interim.
The three ETFs I examined are the iShares Dow Jones Select Dividend Index Fund (DVY), the iShares Asia/Pacific Dividend 30 Index Fund (DVYA), and finally the iShares Emerging Markets Dividend Index Fund (DVYE). In the chart below the results are quite different, with domestic stocks tracking very closely to the Asia/Pacific rim stocks and the obvious standout being the underperformance in the emerging markets sector.
Currently DVY and DVYA are up roughly 11.5% so far this year, and DVYE is down 7.7%, making the total divergence 19.2%, which is enough to peak my interest purely from a price performance standpoint. It's no surprise that anything linked to emerging market equities has underperformed recently and that the growth prospects are superior due partly to the structural population benefits as well as the lack of debt burden that developed markets carry. I can go on and on why emerging market countries should perform better but instead I would like to focus on some of the fundamental benefits of the companies that comprise these funds.
In the table below I assembled some basic observations that point to the relative value of emerging market equities vs. their domestic and Asian counterparts. DVY, DVYA, and DVYE have a somewhat similar beta to the S&P 500, however the price to earnings ratio, price to book ratio, and yields vary significantly, with the fundamental benefits tilted towards the international funds. DVY and DVYE also have the same amount of diversification as well as a similar distribution amongst sectors. However, it is worth noting that DVYA is a smaller index of holdings therefore could be more sensitive to individual stock risk.
If you were to focus on just the table alone, the obvious choice would be either DVYE or DVYA for your portfolio, however the price charts tell a completely different story. Based on these fundamental findings as well as the technical divergences, I believe income investors with a heavy allocation towards overvalued U.S. dividend paying equities could begin to rotate towards undervalued emerging market and/or Asia/Pacific equities, even with just a portion of their portfolio. This sector rotation theme can further diversify your portfolio's income streams, exposure to the U.S. dollar, as well as increase your potential for higher yield and capital appreciation by allocating to companies with lower fundamental valuations.
In addition, whenever initiating a new position, establishing a plan for risk management is key. Investors that might want to review the basics of risk management can read the article I wrote yesterday entitled, 3 Tenets Of Sound Risk Management Revisited.
Additional disclosure: Fabian Capital Management, and/or its clients may hold positions in the ETFs or mutual funds mentioned above. The commentary does not constitute individualized investment advice. The opinions offered herein are not personalized recommendations to buy, sell or hold securities.