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What We're Doing Is Very Big...Dividends
The growth stock trade that propelled US equity markets higher since late 2022 has rapidly come undone in recent weeks. First was news of DeepSeek, the Chinese AI model, in early February, which sparked a selloff in US tech stocks. Then came the uncertainty related to tariffs and the potential impacts to earnings and US GDP that has driven broader equity market weakness. Since the February 19 peak, the S&P 500® Index has fallen 10%—marking correction territory—and the Nasdaq is down ~12%. Certainly, a factor has been the lofty valuations of US large-cap growth stocks, which have come to dominate the increasingly concentrated S&P 500® Index. We love buying a correction as much as the next investor, but the recent selloff has only returned many high-flying stocks back to their September levels. At the end of January, large-cap growth stocks (Russell 1000® Growth Index) were selling for more than 34X next year’s earnings. This compares to its 20-year average of 21X—a 64% premium. The “correction” in valuation is hardly noticeable.
Dividend stocks, however, have been more insulated. As of March 13, dividend stocks, as measured by the Dow Jones US Select Dividend Index, are nearly flat (-0.3% total return) compared to declines of -5.9% for the S&P 500® Index and -8.7% for the large-cap growth NASDAQ-100 Index. The results from the February market peak are starker. Further, after the recent pullback, dividend stocks are now outperforming broad US equities over the past one year.
Exhibit 1 – Dividend Stocks: A Shelter in The Storm
Amid the uncertainty posed by escalating tariffs, it’s no surprise that investors are turning to dividend stocks—a classic defensive option. Dividend stocks have historically been less volatile than the broader US stock market. This is for a few reasons. Companies that pay dividends tend to be established businesses with steady cash flows. Second, paying a dividend instills discipline. Company management is less likely to pursue M&A or growth initiatives that may or may not create value. Additionally, dividend stocks typically have a more loyal shareholder base as investors seeking equity income are less likely to sell. As value investors, we would also note that dividend stocks tend to be value stocks. In fact, dividend (and value) stocks have rarely been cheaper in relative terms compared to the broader US equity market. As of yearend, the Dow Jones US Select Dividend Index sold for just under 14X—in line with its long-run average and 10 multiple points cheaper than the S&P 500® Index (Exhibit 2).
Exhibit 2 – Dividend Stocks Are Historically Cheap
As we noted in our Q4 2024 Artisan Value Income shareholder letter, when investing, starting points matter. High market valuations have historically portended subpar returns over the following decade. Further, high market concentration creates additional risk. Fortunately for investors, the US equity market is not a monolith. There are many good businesses under the surface trading for reasonable valuations. Value stocks and dividend payers are highly cheap on a relative basis. We are reminded of the timeless wisdom of Benjamin Graham.
“In contrast we think that the group of large companies that are relatively unpopular, and therefore obtainable at reasonable earnings multipliers, offers a sound if unspectacular area of choice by the general public.”
The Intelligent Investor by Benjamin Graham
During the current market turmoil, we are remaining true to our disciplined approach to income investing. We continue to seek businesses that meet our three margin of safety criteria—attractive business economics, sound financial condition and attractive valuation—that also have an income component. Our goal is to deliver solid income and capital appreciation on an absolute basis.
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