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Home>Research & Insights>Fund Times>A Strict But Sensible Foreign Dividend-Stock Strategy

A Strict But Sensible Foreign Dividend-Stock Strategy

Bronze-rated Vanguard International Dividend Appreciation Index screens for stocks with consistent long-term dividend growth.

Daniel Sotiroff, 07/08/2017

The following is our latest Fund Analyst Report for Vanguard International Dividend Appreciation VIAAX

Vanguard International Dividend Appreciation uses a strict but sensible strategy to invest in profitable firms from developed and emerging markets. The strategy screens for stocks with consistent long-term dividend growth and caps individual weightings to reduce its exposure to stock-specific risks. This is a solid, attractively priced strategy, but the fund’s short track record limits its Morningstar Analyst Rating to Bronze.

The fund invests in large- and mid-cap stocks from developed and emerging markets and screens for those that have increased their dividend payments for seven consecutive years. The strategy applies additional filters that eliminate stocks that may not be able to sustain their dividend growth. Holdings are weighted by market cap, which helps mitigate turnover and transaction costs. Individual stocks are limited to 4% of the portfolio at the annual rebalance, which improves diversification. The top 10 holdings currently account for about a third of the portfolio.

Many foreign stocks tie their dividend payments to earnings. Therefore, companies that have a history of increasing their dividend payments are also likely to be those that have been consistently growing profitably. This fund’s return on invested capital comes in at 17.3%, compared with 12.5% for the MSCI ACWI ex-USA Growth Index. It also lands in the top quintile of the foreign large-growth Morningstar Category.

Tying dividend payments to earnings also introduces certain risks. This policy can cause dividend payments to be more volatile than simply paying a consistent dividend. Additionally, a narrow focus on firms that consistently increase their dividend payments can emphasize those that are paying out a large portion of their earnings, which leaves a smaller fraction available for management to reinvest in their business. However, that tends to be a bigger risk with funds that focus on dividend yield.

This fund was launched in February 2016 and has not had sufficient time to build a meaningful record. Its absolute and risk-adjusted returns from March 2016 through May 2017 have landed in the middle of the category.

Process Pillar: Positive | Daniel Sotiroff 07/05/2017
This fund tracks the Nasdaq International Dividend Achievers Select Index, which targets companies that have a strong history of raising their dividend payments. Its market-cap-weighted approach further emphasizes large stable firms while mitigating turnover and transaction costs, and supports a Positive Process rating.

The selection universe for this index starts with stocks listed in the Nasdaq Global Ex-U.S. Index and includes those listed in both developed and emerging markets. REITs and companies that are currently working through bankruptcy proceedings are excluded from the selection universe. Additional liquidity screens are applied as well. Selections are narrowed down to companies that have a seven-year history of increasing regular dividend payments. Nasdaq applies some additional secret screens intended to improve the chances of selecting companies that will continue to grow their dividends. Stocks that meet these criteria are weighted by market cap, subject to a 4% maximum weighting at the time of the rebalance. The index is reconstituted annually in March, and the managers use full replication to fulfill their index-tracking objective.

The focus on dividend growth causes this portfolio to hold stocks priced at higher multiples but with greater measures of profitability compared with the MSCI ACWI ex-U.S. Index. The dividend yield on this fund is lower than those of funds that focus specifically on high-yielding stocks, as well as the MSCI benchmark. As a result, this fund should not be considered for those seeking a higher level of income relative to a cap-weighted index.

The focus on growth causes this portfolio to hold stocks from stable sectors such as consumer staples and healthcare. Top holdings include major multinational firms including Nestle NSRGYRoche RHHBY, and Novartis NVS. Companies like these tend to be less volatile than the broader market and should hold up better during market downturns. Holdings are weighted by market cap, which emphasizes the largest companies that have consistently raised dividends, many of which have globally diversified revenue streams. The average market cap of this fund’s holdings is one of the largest in the foreign large-growth category.

Like many of its peers, the fund has some exposure to emerging markets. These stocks represent about 21% of the portfolio. They carry greater risk than their developed-markets counterparts, including greater political risk and underdeveloped infrastructure and regulatory oversight.

Performance Pillar: Neutral | Daniel Sotiroff 07/05/2017
This fund was launched in February 2016 and consequently has a short track record. This makes it difficult to assess its long-term performance and warrants a Neutral Performance Pillar rating. From March 2016 through May 2017, its absolute and risk-adjusted returns have landed in the middle of the foreign large-growth category. This fund’s strict screen on historic dividend payments improves the overall quality of the companies included in the portfolio, which should hold up better than the broader market during downturns. But it has not yet had a chance to demonstrate this ability. Volatility has been on par with the category norm.

This fund’s annualized return has lagged its benchmark by 0.12% since the fund was launched through May 2017. This was less than the fund’s expense ratio of 0.25%. Additionally, upside- and downside-capture ratios have been near 100%, indicating that management is fulfilling their index-tracking mandate.

People Pillar: Positive | Daniel Sotiroff 07/05/2017 
The portfolio managers on this fund are part of Vanguard’s equity index group, allowing them to leverage Vanguard’s global infrastructure and portfolio management technology. The managers are compensated with a bonus that factors in the gross, pretax performance of the fund relative to its objectives. This includes the managers’ record of tracking their fund’s benchmark index during the prior 12 months. These characteristics align the interests of the managers and investors and support a Positive People rating.

The fund is comanaged by Michael Perre and Justin Hales. While these are the only two listed managers, they have access to Vanguard’s global trading desks, which enable them to make the most efficient transactions in various global markets. Perre is a principal in the Vanguard equity index group. He has been with Vanguard since 1990 and has worked in various roles at Vanguard including accounting, securities lending, and trading. Hales is a portfolio manager in Vanguard’s equity index group and is responsible for daily trading and portfolio management. He has been with Vanguard since 2004. Neither of the named managers own shares in this fund.

Parent Pillar: Positive | 12/12/2016
Vanguard has one of the mutual fund industry’s strongest corporate cultures and earns a Positive Parent rating. Its consistent messages to investors to keep costs low, diversify, and stay the course are reflected in the firm’s own behavior. Vanguard’s U.S. fundholders own the firm through small investments by each mutual fund, mitigating potential conflicts of interest that can exist at other firms that are serving two masters. Fund performance is strong overall: Over the past three-, five-, and 10-year periods, its Morningstar Success Ratios are greater than 70%--high among large, diversified fund families.

Over the past year, the firm has collected more than USD 200 billion in net inflows, thanks in large part to investors’ interest in passive investing. The firm's indexing and ETF prowess, low costs, and success in penetrating the financial-advisor sales channel all have fueled growth. Total assets under management now exceed USD 3.3 trillion, giving Vanguard a significant more-than-20% market share across U.S. mutual funds.

Vanguard has been a global player for years but has only more recently turned its focus to growing internationally. The firm is a large player in Australia, where it has the most history, but doesn't yet have the brand recognition and trust it enjoys in the United States in other parts of the world. While non-U.S. funds don't participate in the ownership of Vanguard, the firm's investor-centric culture extends globally.

Price Pillar: Positive | Daniel Sotiroff 07/05/2017 
Vanguard charges an expense ratio of 0.35% for the Investor share class, which has a $3,000 investment minimum, and 0.25% for the Admiral share class, which has a $10,000 minimum. Vanguard also offers this fund as an ETF, which charges the same fee as the Admiral share class. These fees are significantly lower than the 1.15% category average. This should provide the fund with a durable advantage and supports a Positive Price rating. Additionally, the market-cap-weighted approach helps promote low turnover, which further reduces transaction costs and improves the cost of ownership. This fund’s last reported turnover ratio was one of the lowest in its category. The fund charges a 0.25% purchase and redemption fee.

 

 

Daniel Sotiroff is an analyst, passive strategies research, for Morningstar Research Services LLC, a wholly owned subsidiary of Morningstar, Inc.

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