In the first quarter of 2024, the S&P 500 appreciated by 10.56%, its best return since Q1 of 2019. The equity market was fueled by the Federal Reserve’s dovish tone in December and was also coupled with excitement around Artificial Intelligence technology. Nvidia became the poster child for “AI” as its earnings exploded, and market capitalization cracked $2 trillion. Overall, it seems that equity investors were playing “catch up”, especially since several market strategists kept hiking their year-end S&P 500 price targets. As the quarter progressed, hopes for an interest rate cut kept getting delayed. Instead, investors began to focus on the resilient economy and recession talk receded. In our previous commentary, Brentview called for a broadening out of the market. In 2023 investors focused on “The Magnificent 7”, a select list of companies that captured a substantial portion of last year’s equity returns. In 2024, however, the “Magnificent 7” has been reduced to the “Magnificent 4”. Tesla and Apple posted negative returns for the 1st quarter while Alphabet (Google) trailed the market.
Unlike many dividend managers peers, Brentview does not require a minimum dividend yield to be eligible in its portfolio. As seen in Table 2, it is noteworthy from the table that the best returns in the quarter came from the 0-1% yielding cohort followed by non-dividend paying stocks. Lower yielders have been more resilient as they tend to have faster dividend growth characteristics. Conversely, the higher yielding cohorts have seen “competition” from higher yielding opportunities outside of the equity market. In addition, inflationary pressures are likely being felt by the more mature slower growers, which also tend to reside in the “Above 3%” category. This trend has been occurring since 2022, which only highlights the opportunities that are available within the dividend landscape when taking a broader view.
Source: Factset Research
Focusing on the Big Picture
GDP in the fourth quarter of 2023 finished up 3.4% after several upward revisions. Consensus estimates for the first quarter of 2024 call for 2% GDP growth, though the latest Atlanta Fed GDP Now estimate stands at an upwardly revised 2.8%. The economy has proven to be resilient and the growth more enduring. Today’s market valuation is nearing 21x, as seen in Chart 1, and reflects investor sentiment for a soft landing, thus avoiding a recession. Similarly, comparisons are being made between the market today and the dot com era of the late 1990’s. Although valuations were still higher back then, market returns were also heavily concentrated in just a handful of stocks.
Chart 1
S&P 500 Forward P/E Ratio
Source: LSEG Datastream and Yardeni Research
Although market valuations were higher in the late 1990’s, the leadership of technology stocks today is much higher than the dot-com era. The average stock, as measured by the S&P 500 equal weighted index, is near all-time lows. From this observation the recent broadening of the market returns by sector may have legs this time around. Market valuations are above the 5-year and 10-year averages of 19.1x and 17.7x, justified by historically high profit margins as seen in Chart 2. A surprise to many investors, U.S. profit margins have even exceeded the previous high in 1950. Over the last few years, corporations have been able to not only raise prices but also reign in their costs.
Chart 2
US Corporate Profits
Source: St. Louis Federal Reserve Database (FRED)
Dividend Growth Scorecard
According to Howard Silverblatt, Senior Index Analyst at S&P Dow Jones Indices, in 1Q 2024, the cumulative dollar value of U.S. common stock dividends per share posted a 3.0% increase for the trailing twelve months1. As seen in Table 3, on a year-to-date basis, nine GICS sectors have seen a dividend increase in 2024. For the year, twelve of our thirty-seven holdings (32%) announced dividend increases of 10.7% on average. It is important to note that one of our Real Estate Investment Trust holdings takes an incremental increase approach to their monthly payments throughout the year. Also, as the year progresses, we expect that our Information Technology and Healthcare sectors will populate with dividend increases. If our dividend growth rates remain on track, our strategy’s dividend growth rate should be able to exceed the S&P 500’s 2024 forecast of only 6% dividend growth.
As far as broader capital allocation trends go, we have seen a shift toward larger buybacks and modest dividend increases from some index constituents that have higher weights in the S&P 500. The end effect of these capital allocation shifts are likely to pull down the index dividend growth rate over time. Separately both Meta Platforms (Facebook) and Salesforce have recently initiated dividends, which has increased the dividend paying universe.
Table 3
Source: Public company filings
How is Brentview positioning our portfolios?
During the quarter, we added three new positions and sold two companies out of the portfolio. First, we sold a position in financials after the company reached our price target and the timeline for an ideal interest rate environment was determined to be later than initially anticipated. Our financials exposure remains diversified across six different sub-sectors. However, we are still cautious around the troubled commercial real estate market, especially as it pertains to regional players. We also sold an industrial position after recent data points confirmed a slowdown in meaningful parts of their business. Dividend Growth for that company also slowed, which confirmed a more guarded view by management.
Given recent legislation and bipartisan support for the Inflation Reduction Act and the Infrastructure and Jobs Act, we identified areas that might benefit from increased infrastructure spending. Along those lines we recently increased our exposure in the materials sector. We believe that infrastructure spending will
remain robust and select businesses should benefit from a growing list of infrastructure projects. We also increased our health care weightings during the quarter to gain more exposure to weight loss drugs (GLP-1). The potential for these products appears to be larger than initially forecast, especially as insurance now covers part of the costs.
Separately, we are currently evaluating our technology exposure. While still early, the current boom in Artificial Intelligence spending could eventually take away dollars spent from traditional technology businesses. Like all disruptive technologies, “creative destruction” may be at hand as innovation forces further innovation to compete. Regardless, the AI genie is out of the bottle and there are more conservative ways to capture this big trend. Along those lines, we bought a lower beta company that should benefit from Artificial Intelligence; companies that offer renewable and clean energy to supply the increased power demand that comes from AI.
From a portfolio perspective, we remain underweight consumer discretionary. While the consumer has remained resilient, it appears that consumer spending is beginning to become stretched. To this end, we are focusing our retail exposure on firms that offer a strong value proposition to consumers. We remained focused on the cross currents impacting businesses today and finding companies with unique and attractive fundamentals.
Sources
1 Press Release dated April 2, 2024, prnewswire.com/news-releases/sp-dow-jones-indices-reports-us-common-indicated-dividend-payments-increase-16-0-billion-in-q1-2024-driven-by-large-cap-initiations-302105512.html
This commentary reflects the views of Brentview Investment Management and is subject to change as market and other conditions warrant. No forecasts are guaranteed. This commentary is provided for informational purposes only and is not an endorsement of any security, sector, or index. The commentary should not be seen as a solicitation or offer to buy or sell any securities. The advisor (Brentview Investment Management, LLC), and their employees and clients, may hold or trade the securities mentioned in this commentary. Diversification does not guarantee a profit or eliminate the risk of a loss. PAST PERFORMANCE IS NOT A GUARANTEE OF FUTURE RESULTS.
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