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Buy 5 Best Dividend Mutual Funds For Enticing Returns

A Fed rate hike seems off the table in June as companies scaled back hiring in April. Not only was the increase in hiring the slowest since September, the labor force participation rate also declined, which could mean that people found it a bit more difficult to get jobs. The Fed is already cautious about raising rates in the near term as the U.S. inflation rate in the first quarter came in way below its desired target. Possibility of a rate hike receding in the near term makes investment in dividend-paying mutual funds more alluring. As economic growth stalled in the first three months of the year, with a slew of data from consumer spending to manufacturing in April neither painting a solid picture, it will be prudent to stay invested in such funds. Dividend-paying funds generally remain unperturbed by the vagaries of the economy. Rate Hike Improbable in June The latest report on weak job creations in April made the Fed cautious about raising rates sooner. The U.S. economy created a total of 160,000 jobs in April, significantly lower than the consensus estimate of 203,000. The tally was also considerably lower than March’s downwardly revised job number of 208,000. The unemployment rate in April was in line with March’s rate of 5%. However, more people dropped out of the labor force. The participation rate fell to 62.8%, declining for the first time in 7 months as 300,000 individuals quit jobs or gave up job searches. An impending threat with regard to job additions continues to haunt the economy. Companies’ profits are getting squeezed, so they could look to stabilize their labor costs by reducing hiring further. Fed officials were already harboring mixed feelings about raising rates in June. The core personal consumption expenditures (PCE) price index, the Fed’s preferred inflation measure, increased 0.1% in the first quarter, below the consensus estimate of a 0.2% gain. This is also way below the Fed’s desired target level of 2%. Economic Data Disappointing As businesses and consumers turned cautious with their spending, the U.S. economy posted its weakest quarterly growth in two years between January and March. The U.S. economy expanded at an annualized rate of 0.5% in the first quarter, way below last quarter’s growth rate of 1.4%, according to the Commerce Department. Into the second quarter, things aren’t looking bright either. Consumer spending that weakened in the first quarter may have further experienced a slowdown in April. The Reuters/University of Michigan consumer sentiment index declined to 89.0 in April from 91.0 in March. Compared with year-ago levels, the index plummeted 7.2%. The battered U.S. manufacturing sector did stabilize a bit in April, but is yet to regain full health. The ISM manufacturing index dropped to 50.8 in April from 51.8 in March. Top 5 Dividend Mutual Funds to Invest In Diminishing chances of a rate hike soon, calls for investing in dividend-paying mutual funds. Dividend payers suffer when rates are rising as investors focus on safe bonds. Add to this a flurry of weak economic reports and we all know why investing in such top-notch dividend funds won’t be a bad proposition. Companies that pay dividends persistently put a ceiling on economic uncertainty. These companies have steady cash flows and are mostly financially stable and mature companies, which help their stock prices to increase gradually over a period of time. Moreover, dividends are less taxed as compared to interest income, help your portfolio to grow at a compounded rate and offer protection from earnings manipulation. We have selected five such mutual funds that offer a promising year-to-date dividend yield, have given impressive 3-year and 5-year annualized returns, boast a Zacks Mutual Fund Rank #1 (Strong Buy) or #2 (Buy), offer a minimum initial investment within $2,500 and carry a low expense ratio. Funds have been selected over stocks, since funds reduce transaction costs for investors and also diversify their portfolio without the numerous commission charges that stocks need to bear. Vanguard Dividend Growth Fund Investor (MUTF: VDIGX ) invests primarily in stocks that tend to offer current dividends. VDIGX’s year-to-date dividend yield is 1.88%. VDIGX’s 3-year and 5-year annualized returns are 10.5% and 11.9%, respectively. The annual expense ratio of 0.33% is lower than the category average of 1.01%. VDIGX has a Zacks Mutual Fund Rank #2. Fidelity Strategic Dividend & Income Fund (MUTF: FSDIX ) invests the fund’s assets with a focus on equity securities that pay current dividends. FSDIX’s year-to-date dividend yield is 2.71%. FSDIX’s 3-year and 5-year annualized returns are 7.1% and 9.3%, respectively. The annual expense ratio of 0.75% is lower than the category average of 0.82%. FSDIX has a Zacks Mutual Fund Rank #1. Vanguard Dividend Appreciation Index Fund Investor (MUTF: VDAIX ) seeks to track the performance of a benchmark index that measures the investment return of common stocks of companies that have a record of increasing dividends over time. VDAIX’s year-to-date dividend yield is 1.95%. VDAIX’s 3-year and 5-year annualized returns are 8.7% and 9.9%, respectively. The annual expense ratio of 0.19% is lower than the category average of 1.01%. VDAIX has a Zacks Mutual Fund Rank #2. Fidelity Dividend Growth Fund (MUTF: FDGFX ) invests primarily in companies that pay dividends or that Fidelity Management & Research Company believes that these companies have the potential to pay dividends in the future. FDGFX’s year-to-date dividend yield is 1.38%. FDGFX’s 3-year and 5-year annualized returns are 8.9% and 8.3%, respectively. The annual expense ratio of 0.68% is lower than the category average of 1.01%. FDGFX has a Zacks Mutual Fund Rank #2. Vanguard High Dividend Yield Index Fund Investor (MUTF: VHDYX ) employs an indexing investment approach designed to track the performance of the FTSE High Dividend Yield Index. VHDYX’s year-to-date dividend yield is 2.9%. VHDYX’s 3-year and 5-year annualized returns are 10.2% and 12.1%, respectively. The annual expense ratio of 0.16% is lower than the category average of 1.1%. VHDYX has a Zacks Mutual Fund Rank #1. Original Post

The Upside And Downside Of Market Capture With Alternatives

By Richard Brink Over the long run, alternative investments have outpaced traditional 60/40 stock/bond portfolios with lower volatility. What’s the secret? Gaining more in up markets than they lose in down markets. The Upside/Downside Capture Ratio Successful alternative strategies are managed to capture some part of the equity market’s upside and an even smaller part of the market’s downside. The concept is to win by not losing, and it’s reflected in the up/down capture ratio. Let’s take a strategy with an up/down capture ratio of 50/20. When markets are doing well, it delivers 50% of the upside; when markets are down, it delivers 20% of the downside. Capturing only half of the equity market’s gains in an up market with an alternative strategy may not sound too appealing on the surface. But what’s the flip side? In bear markets, investors experience only 20% of the downside. Alternatives vs. Equity: The Tortoise and the Hare Let’s compare a hypothetical $10,000 investment made in 1995 – for 20 years – in the S&P 500 equity index with an equal investment in a hypothetical alternative strategy with a 50/20 up/down capture ratio (Display). It ends up looking a lot like the fable of the tortoise and the hare. The S&P 500 – the “hare” in this scenario – got off to a fast start. During the tech bubble buildup in the late 1990s and early 2000s, the equity market dominated – and the gap between the two investment approaches widened. But then the tech bubble burst, and the S&P 500 lost major ground. The 50/20 alternative strategy – the “tortoise” – which had been steadily, if modestly, plugging along at “half-speed” until the sell-off, pulled ahead. As we know, markets eventually stabilized and US equities resumed their upward march. But just as the S&P 500 started to catch back up, the 2008 financial crisis sent stocks reeling again. The S&P 500 lost 51% of its value by early 2009, while the 50/20 declined by only 10%. The importance of that is found in the time needed to recover the losses. In the recovery that followed, the 50/20 was back to its previous peak in nine months. The S&P 500 took more than three years. Indeed, despite very strong US equity market performance over the past several years, the S&P 500 has still not caught up. Over a 20-year span of this tortoise and hare battle, the alternative strategy would have ended up delivering dramatically higher returns than the S&P 500 – but with less than half of the stock market’s volatility. Pretty crafty turtle. Click to enlarge The Insurance Perspective Why doesn’t everyone find an alternative strategy with 50/20 up/down capture? After all, this isn’t just hypothetical – the average up/down capture ratio of the entire HFRI Equity Hedge category, for example, is 65/32. In large part, it likely has to do with the investment experience. In other words, some investors would rather simply fire a manager who delivered just 50% of the market’s upside in a rally. When that frustration sets in, it’s easier to dismiss a strategy’s effectiveness in bear markets. This was magnified in the past few years by a central bank-supported “beta trade,” with strong performance and generally short-lived downturns. That appears to be changing, but investors need to be diligent in searching for a strategy that fits their long-term needs. It helps to think of a strategy’s up/down capture ratio as an insurance policy. For the strategy with 50/20 up/down capture, the difference between the market’s gain and the strategy’s up capture – in this case, 50% of the full market gain – is the insurance premium you pay in terms of sacrificed upside potential during up markets. The “down” capture of 20% can be viewed as a deductible – you experience a loss of 20% on the alternative strategy before its “policy” kicks in and protects the downside. Finding the Right Fit Alternative strategies come with many different combinations of upside and downside market capture. We think the best way to approach the choice is by following three steps: 1) Find a strategy with a level of upside capture you’re comfortable with 2) Make sure there’s a complementary downside capture 3) Gain confidence that the manager can continue to deliver that experience consistently It all comes back to a point we’ve emphasized before: Investors should know what they want when they’re looking for an alternative strategy. And they should identify the right manager who can consistently deliver the return experience they’re looking for. The views expressed herein do not constitute research, investment advice or trade recommendations and do not necessarily represent the views of all AB portfolio-management team s Richard Brink, CFA – Managing Director-Alternatives and Multi-Asset

The Small-Cap "Alpha" Myth

There is a common misconception about “alpha” in the small-cap market within the United States. Many professionals believe that once we step out of the mega-cap world of companies like Google, Wal-Mart, Coca-Cola and Apple where there is an army of analysts digging into the vast amounts of data and pricing stocks accordingly, that there is opportunity in its smaller counterparts given the perceived market inefficiency. The story goes that there are fewer analysts covering these particular companies and, therefore, there is an opportunity to produce superior risk-adjusted returns. Whenever we want to research a particular topic in investing, it is always best to start looking into peer-reviewed academic research. In fact, we published an article all the way back in 2001 that covered this particular topic. Our analysis was based on a research paper entitled “The Small Cap Myth” produced by Richard M. Ennis and Michael D. Sebastian of Ennis Knupp Associates, one of the largest pension consulting firms in the country. Based on a sample of 128 small-cap managers, they concluded that once we adjusted for (1) management fees, (2) improper benchmarking, and (3) survivorship bias within the sample, the average “alpha” fell to virtually zero. Aon Hewitt, another large consulting firm, recently published its own research on the small-cap “alpha” myth in January of this year entitled “The Small-Cap Alpha Myth Revisited.” Based on the eVestment Database of small-cap equity managers, the researchers found that the median performance of these managers was worse for the 10-year period ending June 30, 2015 than the original analysis in 2001. The median performance across all styles in the small-cap market was less than 1% (originally around 4%). Once the researchers adjusted for survivorship bias, back-fill bias, liquidity and transaction costs, which the researchers estimated to be almost 200 basis points, the median results were actually negative. Click to enlarge Similarly, we can compare the average performance of all 479 actively managed small cap funds (as classified by Morningstar) against commercial benchmarks like the Russell 2000 Index and S&P Small Cap 600 Index. If we then add small-cap index funds from Dimensional, Vanguard and iShares, we have a nice comparison chart over the 15-year period ending 12/31/2015. As you can see below, the average actively managed small-cap fund underperformed the Russell 2000 Index by 0.24% per year and the DFA U.S. Small Cap Fund by 2.0% per year, net of fees. These results not only highlight the ” arithmetic of active management ” that Nobel Laureate Bill Sharpe reminds investors of, but also the potential benefits of utilizing a strategy, such as the one offered by DFA, that can better capture the small size premium by designing their own DFA small-cap index that has a smaller weighted average market capitalization than other indexes. Click to enlarge How can different index funds produce significantly different performances if they are all targeting the same asset class? In short, differences in performance come from differences in indexes. For example, the Russell 2000 Index focuses on the bottom 2000 companies in terms of market capitalization in the Russell 3000 Index. DFA, on the other hand, defines its Small-Cap Index as a market-capitalization-weighted index of securities of the smallest US companies whose market capitalization falls in the lowest 8% of the total market capitalization of the eligible market ( see details here ). The eligible market is composed of securities of US companies traded on the NYSE, NYSE MKT (formerly AMEX), and Nasdaq Global Market. Exclusions include non-US companies, REITs, UITs and Investment Companies and companies with the lowest profitability and highest relative price within the small cap universe. Profitability is measured as operating income before depreciation and amortization minus interest expense scaled by book. You can find an even more detailed explanation of the historical composition of their indexes in the footnotes below. It is an important reminder that DFA is not new to the indexing industry. In fact, it is one of the pioneers of understanding and implementing index-based strategies. There is no “right” answer, but DFA’s approach seems to better capture the small-cap premium. It is a delicate balance between maintaining strong diversification, pursuing the small cap premium, and keeping trading costs as low as possible. The chart below displays the historical annualized return and standard deviation for a few DFA and Russell Indexes over the last 37 years. You can see that DFA generates a higher return than Russell by better capturing risk premiums in the stock market. Click to enlarge In its own words, Aon Hewitt summed up belief in the small-cap “alpha” with the following: “The widely held assumption that inefficiencies within the U.S. small- cap equity market should lead to greater opportunity for active management than the large-cap equity market appears to be just as mythical in 2015 as it was in 2001. The growth in actively managed assets within the small-cap space over the past 14 years may be significantly contributing to the lack of inefficiency that many market participants erroneously assume.” We couldn’t agree more. Click to enlarge IFA Painting: The Size Premium Disclosure: I am/we are long DFSTX. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.