April 2021
Despite Rising Rates, Stocks Performed Well
KEY OBSERVATIONS

Interest rates kept rising in March, with the 10-year U.S. Treasury ending the month nearly 35 basis points (bps) higher. Stocks did more than just shrug off this rise in rates. The S&P 500 rose over 4% in March, perhaps surprising those who have been waiting for these incessantly rising rates to take their toll on the equity market.

Stocks May Be Bolstered by Solid Economic Growth

Historically, stocks have often done just fine when rates rise, particularly when rates rise from low levels and the rise is accompanied by solid economic growth. Economic indicators have been quite strong: The latest ISM Manufacturing reading was the highest since 1983, and—for a more forward-looking indicator—the latest Conference Board Consumer Confidence Index surged higher, significantly exceeding estimates. Fiscal stimulus, high household savings and, of course, vaccines are all driving strong economic growth and strong economic growth expectations. If that remains true, stocks are likely to do well even as interest rates continue to rise.

Which Categories Are Leading U.S. Equity Performance?

While stocks have done quite well this year, leadership has indeed shifted. Value stocks have moved toward the top of the performance charts. However, we have made the argument that a more durable alternative than value may be stocks that have consistently grown their dividends, such as the S&P 500® Dividend Aristocrats®. The Dividend Aristocrats have outperformed the S&P 500 year to date, and last year, grew their dividends 14%—a key attribute as interest rates continue to rise.

An Approach for Technology-Related Investing

Many investors may not be familiar with the application of a dividend growth strategy to technology stocks. The tech sector now accounts for roughly 16% of the dividends of the S&P Composite 1500 Total Return Index, and some of those contributors have been consistently growing their dividends for quite some time. The S&P® Technology Dividend Aristocrats® is an index of well-established technology-related companies that have consistently raised their dividends for at least seven consecutive years. So far this year, the index has significantly outperformed the S&P 500 tech sector, the Nasdaq 100 Index, and the S&P 500 Growth Index, and may be an effective strategy for investing in technology stocks in a post-pandemic, reopening world.


CHART OF THE MONTH:
Consider a Dividend Growth Strategy for Technology Investing

S&P Technology Dividend Aristocrats Performance Comparison


Source: Bloomberg. Performance quoted represents past performance and does not guarantee future results.



PERFORMANCE RECAP

All equities except emerging markets were in the green for the month of March, with global infrastructure rising to the top. Of note, the global infrastructure market segment below is measured by the Dow Jones Brookfield Global Infrastructure Composite Index, which specifically measures the owners and operators of infrastructure assets.

Returns of Various Common Market Segments

Source: Bloomberg. Performance quoted represents past performance and does not guarantee future results.



Equity Perspectives
Equities Resilient as Yields Continued to Climb

In last month’s commentary, we noted that the recent backup in yields from their lows in early August 2020 has reignited the discussion of the relationship between interest rates and stock prices. We further noted that empirical evidence (e.g., historical performance) has proven that stocks can do just fine with higher rates. Thus far in 2021, equities (as represented by the S&P 500 Index) have again proven resilient in the face of a rising rate environment, with positive returns in the month of March and for the quarter.

Dividend Growth Strategies Have Provided Notable Income

Dividend strategies, in particular, have drawn increased interest from income-focused investors, as bond yields have been in secular decline for more than two decades with the 10-year Treasury yield remaining below 2%. But even with the recent yield increases, bond yields have a long way to go before competing with dividend equity yields. To demonstrate, we’ve plotted the historical relationship between the 10-year Treasury yield and the dividend yield for the S&P 500® Dividend Aristocrats® Index since December 2008. While the 10-year Treasury has been more volatile, the Dividend Aristocrats’ yield has held more or less steady at between 2.5% and 3.0% for the last decade. The 10-year Treasury bond’s yield would have to increase another 100 basis points to reach the level of the Aristocrats’ yield.

The S&P 500 Dividend Aristocrats Yield Exceeded 10-Year Treasuries

Sources: Bloomberg and S&P Dow Jones Indices. Performance quoted represents past performance and does not guarantee future results.


Differentiating Dividend Strategies

We often state that not all dividend strategies are created equal. Broadly defined, high dividend yield strategies tend to appeal more to income investors, while dividend growth investors tend to focus on total returns. These differences aside, the two strategies tend to respond differently based on the direction of interest rate changes. High dividend yielders tend to be in more demand when rates are low, but more sensitive to higher rates as higher yields elsewhere (e.g., fixed income) make their income stream relatively less attractive.

Dividend growers, on the other hand, can be considered an “all weather” strategy and have performed well in a variety of interest rate regimes. Interestingly, dividend growers (as represented by the S&P 500 Dividend Aristocrats) have outperformed high dividend yield (as represented by Dow Jones US Select Dividend) in both rising and falling interest rate periods.

Dividend Growers Have Historically Outperformed in Periods of Rising and Falling Rates

Source: Bloomberg, 5/2/05-12/31/20. Results show average performance of dividend strategies based on monthly interest rate changes. S&P 500 Dividend Aristocrats measures the performance of S&P 500 companies that have increased dividends every year for the last 25 consecutive years. Dow Jones U.S. Select Dividend Index represents the United States’ leading stocks by dividend yield; this index is shown here because it is tracked by the largest high dividend yield ETF by assets. Performance quoted represents past performance and does not guarantee future results. There is no guarantee dividends will be paid. Companies may reduce or eliminate dividends at any time, and those that do will be dropped from the indexes at reconstitution.



Bottom line: Owning companies that have grown dividends consecutively for many years has historically been a solid strategy for most rate environments.


Fixed Income Perspectives
The Fed Shifts Its Focus

Chairman Powell recently stated that the Federal Reserve wants to see real data showing that the economy is back on track prior to making any adjustments to the Fed Funds rate. This is a deviation from prior policy moves made by the Fed in which it based its decisions on forecasted data, rather than live data. And so, while the Fed has indicated it does not expect to raise the Fed Funds rate prior to 2023, we are seeing an uptick in longer-term yields. This is based not only on the upbeat economic outlook, but on expectations as to when and how quickly the Fed may react once data indicates that the United States has achieved the Fed’s primary policy goals of maximum employment and price stability.

Powell has also indicated that he is comfortable with inflation rising above the Fed’s long-term target of 2%, and in fact expects it to, but believes that the overshoot in inflation will only be “transitory.” The most recent inflation numbers for core personal consumption expenditures indicate that inflation was up just 1.4% in February year-over-year.

The Relationship Between Yields and Inflation

Many investors focus on inflation and how it may impact longer-term yields, but it is important to note that inflation expectations and yields do not always move in the same direction. From mid-January through mid-February, we saw inflation expectations fall while the 10-year Treasury yield rose. In contrast, from mid-February through mid-March, we saw a rise in both inflation expectations and 10-year Treasury yields. The one constant was a continued rise in the 10-year Treasury yield, now up more than 80 bps on a year-to-date basis.

Shorter Duration Strategies Extend Their Outperformance

While stocks may have been able to stomach the uptick in longer-term Treasury yields during the month, the same cannot be said for bonds. Interest rates were the primary driver of returns for most fixed income strategies, as credit spreads for both investment grade and high yield bonds remained fairly stable, with investment grade spreads rising 1 bp while high yield spreads fell 16 bps. The following table illustrates the monthly performance of several fixed income segments in order of duration from left to right. Unsurprisingly, the majority of bond strategies with extended durations suffered the worst performance.

Duration is a measure of bond price sensitivity to a change in interest rates.


Few Segments of the Bond Market Posted Positive Returns

Sources: Bloomberg. Floating Rate tracked by Bloomberg Barclays US FRN< 5 years Total Return Index Value Unhedged USD, Short Term (1-3 Year) High Yield tracked by Bloomberg Barclays US High Yield 1-3 Year Total Return Index Value Unhedged USD, High Yield Bonds tracked by Bloomberg Barclays US Corporate High Yield Total Return Index Value Unhedged USD, Mortgage Backed Securities tracked by Bloomberg Barclays US MBS Index Total Return Value Unhedged USD, U.S. Aggregate Bond Market tracked by Bloomberg Barclays US Agg Total Return Value Unhedged USD, Treasury Bonds tracked by Bloomberg Barclays US Treasury Total Return Unhedged USD, Treasury Inflation Protected (TIPS) tracked by Bloomberg Barclays US Treasury Inflation Notes TR Index Value Unhedged USD, and Corporate Bonds tracked by Bloomberg Barclays US Corporate Total Return Value Unhedged USD. Performance quoted represents past performance and does not guarantee future results. Strategies that rely predominantly on credit exposure, such as short term (1- to 3-year) high yield bonds and high yield bonds in general, were the only segments listed above that managed to post positive returns in March. Interest rates are likely to continue to normalize as the outlook for the economy improves. As such, investors may favor fixed income strategies that rely predominantly on credit risk as a source of return rather than those that rely predominantly on interest rate risk.


ProShares Investment Strategy Team



Sources for data and statistics: Bloomberg, FactSet, Morningstar, ProShares

The different market segments represented in the performance recap charts use the following indexes: U.S. Large Cap: S&P 500 TR; U.S. Large Cap Growth: S&P 500 Growth TR; U.S. Large Cap Value: S&P 500 Value TR; U.S. Mid Cap: S&P Mid Cap TR; U.S. Small Cap: Russell 2000 TR; International Developed Stocks: MSCI Daily TR NET EAFE; Emerging Markets Stocks: MSCI Daily TR Net Emerging Markets; Global Infrastructure: Dow Jones Brookfield Global Infrastructure Composite; Commodities: Bloomberg Commodity TR; U.S. Bonds: Bloomberg Barclays U.S. Aggregate; U.S. High Yield: Bloomberg Barclays Corporate High Yield; International Developed Bonds: Bloomberg Barclays Global Agg ex-USD; Emerging Market Bonds: DBIQ Emerging Markets USD Liquid Balanced.

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This is not intended to be investment advice. Indexes are unmanaged, and one cannot invest directly in an index. Past performance does not guarantee future results.

Any forward-looking statements herein are based on expectations of ProShare Advisors LLC at this time. Whether or not actual results and developments will conform to ProShare Advisors LLC's expectations and predictions, however, is subject to a number of risks and uncertainties, including general economic, market and business conditions; changes in laws or regulations or other actions made by governmental authorities or regulatory bodies; and other world economic and political developments. ProShare Advisors LLC undertakes no duty to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.

Investing is currently subject to additional risks and uncertainties related to COVID-19, including general economic, market and business conditions; changes in laws or regulations or other actions made by governmental authorities or regulatory bodies; and world economic and political developments.

Investing involves risk, including the possible loss of principal. This information is not meant to be investment advice.

Bonds will decrease in value as interest rates rise. International investments may also involve risks from geographic concentration, differences in valuation and valuation times, unfavorable fluctuations in currency, differences in generally accepted accounting principles, and economic or political instability. In emerging markets, many risks are heightened, and lower trading volumes may occur. Small- and mid-cap companies may lack the financial and personnel resources to handle economic or industry-wide setbacks and, as a result, such setbacks could have a greater effect on small- and mid-cap security prices.

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