In a sudden shift that caught many by surprise, the dividend safety trade, which attracted over $60 billion in exchange-traded funds focusing on dividends last year, is now underperforming. The largest dividend ETFs, like the iShares Select Dividend ETF (DVY), have not provided the refuge investors sought amidst the Fed's tightening cycle. Instead, the market has favored tech stocks, leaving dividend-focused funds, traditionally heavy on utilities and financial stocks, trailing with the DVY down 5.4% on a total return basis.
The chase for yield in a tumultuous market has brought to light the perils of timing the market. Investors sought companies with solid dividend records as a hedge against instability, only to find themselves tethered to underperformers in an environment where yields have risen sharply. Other funds like the SPDR S&P Dividend ETF (SDY) and the Schwab US Dividend ETF (SCHD) have also seen underwhelming performances, with returns ranging from slight losses to modest gains, a far cry from the double-digit surges of tech giants.
Analysts from Invesco and ProShares attribute the lagging performance of dividend funds to their underweight in high-growth sectors and an overweight in less dynamic tech names like Oracle (ORCL), Cisco Systems (CSCO), and IBM (IBM). On the other hand, Schwab’s D.J. Tierney points to 2023's preference for growth over value investments, a trend that's likely to continue if interest rates have peaked. With dividend funds’ bias towards value stocks, investors have missed out on the rally led by tech mega caps, which have been the main drivers of market gains this year.
As the market evolves, the allure of dividends as a strategy is being questioned, especially when bond yields offer a more reliable income stream. The significant drop in new investments into dividend ETFs this year suggests a shift in investor sentiment. While the stability of consistent dividend payers remains a sign of a company's resilience, as evidenced by the performance of the S&P 500 Dividend Aristocrats index (NOBL), the overall tilt of the market towards growth avenues cannot be ignored. This rebalancing act between dividends and growth presents a new challenge for investors navigating the complexities of income investing in the current economic climate.
