US equity markets have been on a roll in recent months, but what’s been fueling the gains? Market returns have been driven by riskier stocks, while quality has taken a back seat. While the runaway high-beta train might give investors an exciting ride, it might not be the best mode of transport for a longer investment journey.
Since early April, the US stock market’s surge has been driven by high-beta stocks, a relatively risky group. Meanwhile, stocks with higher-quality features have lagged behind. These include stocks that rank high on dividend yield, dividend growth and shareholder yield (i. e. , companies that consistently return capital via dividends and share buybacks).
Thrill Rides Don’t Last Forever
The short-term ride may be thrilling, but will it last? Longer-term data tell a different story. Over the last 20 years, higher-quality stocks have been much more resilient than high-beta stocks. The top quintile of stocks with high shareholder yield and high dividend growth have returned 57. 3% and 61. 7% more than the lowest quintile, respectively, over the last two decades; the highest-beta stocks have returned 10. 9% less than their lowest quintile peers.
Current risks warrant caution. Considering the lofty valuations of the S&P 500 and other US indices, as well as risks such as stubborn inflation and geopolitical tensions, we believe higher-volatility stocks may be more vulnerable to a sharp pullback than higher-quality stocks. Expectations of more Fed interest-rate cuts could also prompt a rebound in these capital return–oriented stocks, in our view. In a world facing disruption on many fronts, companies with resilient business models and disciplined capital returns courtesy of thoughtful management teams could reassert themselves as quiet outperformers for patient investors with a long time horizon.
