The essential takeaway for investors from the recent Fed press conference is that bond yields are not going to climb higher at least until 2023, giving companies a meaningful time to upload cheap debt. Furthermore, although the OECD raised the economic outlook for 2020, it also emphasized that the accommodative policies of the central banks (otherwise, low interest rates) will be necessary to support recovery.
Thus, as small or even sub-zero coupons, investors are forced to seek alternative income alternatives. The importance of dividends to create a meaningful and scalable income stream is clearly not about to falter. But the pandemic dente cash flows, and thus dividend plans for many companies, which previously looked amplified, and the process of picking a stock with a safe, sustainable payout and comfortable returns has become much more taxing.
A Look Under the Armor
At present, PID's portfolio includes $ 598 million in assets under management with 59 holdings. Its distribution rate of 12 months is 4.76% . The fund tracks the NASDAQ International Dividend Achievers Index (DAT). To be included in the index, a company must increase its annual regular payout for at least five consecutive years.
DAT uses a dividend-weighted methodology. Rebalancing takes place every quarter.
"Every quarter, the index is rebalanced so that the maximum weight of the index collateral does not exceed 4%. The preponderance of any restricted securities is distributed proportionally over the remaining indexed securities. The changes take effect after the end of trading on Friday, March, June, September and December. "
It is worth noting that it is much easier to qualify for DAT than for the NASDAQ Dividend Achievers Index (DIVQ), which requires ten consecutive years of DPS increases.
With an ETF that tracks DAT, investors can benefit from exposure to global capital markets and equities with promising dividend growth profiles at the same time. But before we go deeper, I should clarify what an adjective "international" stands for in the context of the fund. On page 2 of the DAT method, it is explained that:
"… the issuer of the security must be incorporated outside the United States and not in a country with a favorable interest as defined by the Nasdaq Global Index (NQGI) methodology."
The countries of interest include the Bahamas, Bermuda, Cyprus, Malta, etc .; the full list is available on page 11 of the NQGI Methodology.
But at the same time, the issuer must:
"… be listed on the Nasdaq Stock Market® (Nasdaq®), the New York Stock Exchange, the NYSE American or the CBOE Exchange."
As a result, the portfolio is dominated by common stock (total 31), which are mainly Canadian (except for Dublin-based Linde plc (OTC: LIN) (listed on the NYSE), and ADRs from mostly European companies). It is also worth noting that PID has partnership interests in three LPs: Brookfield Property Partners (BPY), Brookfield Infrastructure Partners (BIP) and Brookfield Renewable Partners (BEP). The GDR is in fourth place with only two holdings: Russian steelmaker Novolipetsk Steel (OTC: NISQY) and Mumbai-based multinational conglomerate Reliance Industries; both have a secondary listing on the London Stock Exchange.
Low diversification is an Achilles' heel
For an investor seeking an ETF with significant diversification, the PID is unlikely to be an election fund for two main reasons. First, in terms of country composition, the fund is mainly focused on Canada and the United Kingdom, which make up 50.65% and 7.53% respectively. This means that softness in the economy or exchange rate volatility is likely to take a toll on dividends and price returns (and it has already taken).
To rewind, shortly after the Great Recession, the loony performed much stronger than the greenback; in 2011, the CAD / USD exchange rate touched up to 1.05.
But that changed later in the 2010s, in part because of weaker oil prices (due to high sulfur content, low API gravity, and limited takeaway capacity, Canadian benchmarks traded by WCS) usually with discounts to WTI and Brent) led to the weakening of the national currency. From 2012 to 2016, the loony has lost almost a third of its value and has traded rangebound ever since (with the exception of April 2020, when investors rushed to securities such as US treasuries, the Canadian dollar fell).
At the same time, the British pound has fallen steadily since 2014 with a few (unsuccessful) attempts to regain abandoned heights, as it was hit by Brexit-related uncertainty that clouded Britain economic prospects and limited total return on PID. The latest news that the Bank of England is exploring interest rates below zero has pushed the GBP lower.
Second, the sector allocation is also far from perfect. Combined, Economy and Energy account for ~ 48.2%, while exposure to Health Care which has shone this year thanks to short-term stimuli due to pandemics, represents only ~ 3.26% of the portfolio. Also, PID's largest stake with ~ 4.84% weight is Methanex (MEOH), an unprofitable methanol company that fell in favor of investors due to tumbling sales.
Beware of energy sector risks
Another problem investors should not ignore is the fund's exposure to Canadian oil companies that have oil sands, which had already been hit by cheap oil in 2019 and has faced a perfect storm this year. PID invested in the following Canadian petroleum heavyweights:
- Imperial Oil (IMO),
- Suncor Energy (SU),
- Canadian Natural Resources (CNQ).
Other PID holdings from the energy sector are as follows:
Created by the author using the fund's inventory dataset.
Bitumen requires hefty investment and has high production costs, which weigh margins. Furthermore, the oil price regulations meaningfully complicate the cash flow generation. Moreover, when it comes to carbon footprints, oil sands activities are hardly clean, which requires their duty on the ESG rankings and reduces the investor's attention to respective companies. Among other things, on 13 May, Norges Bank excluded IMO, CNQ and SU from the Government Pension Fund Global, citing "unacceptable greenhouse gas emissions."
A deeper look at performance
Unfortunately, compared to the US market represented by the S&P 500 (SPY), both total and price returns of PID look bleak, no matter what period we analyze. For example, the 10-year total return on PID is only 21.12%, while the result delivered by the S&P 500 is more than 10 times greater. Among other things, the Vanguard Dividend Appreciation ETF (VIG), a fund that tracks the NASDAQ US Dividend Achievers Select Index, has also delivered a much more appealing total return since 2010.
Source: Seeking Alpha
It may be a lot to blame for the weak performance, but personally I consider the weakening of the Canadian dollar and the British pound against the US dollar, and insufficient diversification, the problems I highlighted above, as the main drivers of underperformance. To get a little more context here, I also added iShares MSCI Canada ETF (EWC) and iShares MSCI United Kingdom ETF (EWU) charts, illustrating that my hypothesis is correct: the S&P 500 has easily trounced both.
Finally, if we zoom into the chart and look at 1 year returns that have been strongly affected by the coronavirus crisis, it appears that the respective ETFs have again been significantly behind the US benchmarks; all three funds have not recovered yet. This fact illustrates that investors are much more confident in the US economic outlook posed by the Fed's accommodative policy.
Source: Seeking Alpha
PID did not deliver alpha for the last ten years, when headwinds against currency dented returns. It is also behind VIG, the US-focused alternative. The fund is significantly overweight in Canadian equities and has a meaningful exposure to the energy sector, which means that the performance of the loonie and oil price path is still one of the most important drivers for price returns.
In sum, investors should carefully consider all risk factors and act with caution.
Information: I / we have no positions in any of the mentioned shares, and have no plans to start any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I do not receive compensation for that (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.