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A long time coming: Real estate moves out from under the shadow of financials - Part 1

How a Negative Interest Rate Affected the Japanese Bond Market

Rieger Report: Mismatch - State Pension Short Falls & Muni Bond Market Returns

Consistency: What Rolling Returns Say About Dividend Aristocrats

When Smart Beta Fails

A long time coming: Real estate moves out from under the shadow of financials - Part 1

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Nick Kalivas

Senior Equity Product Strategist

Invesco

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Real estate’s new sector status uncovers key differences between REITs and financial stocks

As of Sept. 1, S&P and MSCI have established real estate as the 11th sector within the Global Industry Classification Standard (GICS) by separating it from the financials sector. Under this arrangement, real estate investment trusts (REITs) are now classified as follows:

  1. Mortgage REITs are a sub-industry of the financials sector.
  2. All other REITs are classified as equity REITs and are classified as an industry under the real estate sector.

This move is expected to increase investor focus on the new real estate sector, which has offered unique return characteristics. As an example, REITs typically pay an above-market dividend yield. As of Aug. 31, 2016, the S&P 500 Real Estate Investment Trusts REITS Industry Index offered a dividend yield of 3.91%, compared with 2.13% for the S&P 500 Index.1

Financial stocks and REITs tend to behave differently

Separating real estate from financials make sense when you consider how they relate to each other. The following correlation matrix illustrates the relationship between different segments of the financials  sector relative to REITs, the VIX Index (a near-term indicator of market volatility), the 10-year Treasury yield, the S&P 500 Index, and the utility sector over a roughly eight-year period.

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Judging from these correlations, there are key differences between financial shares and real estate investment trusts.

  • Diversified financial stocks (S&P 500 Diversified Financials Industry Group Index) and insurance stocks (S&P 500 Insurance Select Industry Index) displayed the highest correlations to the 10-year Treasury yield; both like rising rates. By contrast, equity REITs (S&P 500 Real Estate Investment Trusts REITs Industry Index) displayed significantly lower correlation to the 10-year Treasury yield, while mortgage REITs (Dow Jones U.S. Mortgage REITs Index) displayed limited correlation to the 10-year Treasury yield.
  • Insurance stocks were most negatively correlated to market volatility, as represented by VIX, while mortgage REITs and equity REITs displayed the least negative correlation to VIX. This suggests that REITs could have a relatively defensive tilt compared with stocks in the financials sector. Typically, VIX rises during periods of uncertainty and weak equity prices.
  • Equity REITs had lower correlation to the S&P 500 Index than broader financials, such as banks, insurance companies and diversified financials. Mortgage REITs displayed the lowest correlation to the S&P 500 Index.
  • Banks (S&P 500 Banks Index) and diversified financials displayed a strong positive correlation to each other. In fact, they look related, from my viewpoint.
  • The relationship between equity REITs and utility stocks (S&P 500 Utilities Sector Index) is stronger than the relationship between REITs and other segments of the financials sector, such as banks, diversified financials, and insurance companies.

Clearly, there are significant differences between REITs and other segments of the financials sector, which may help explain some of the logic behind separating real estate from financials.

Stay tuned for part 2 of this series.

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Important information
Correlation is the degree to which two investments have historically moved in relation to each other.
Dividend yield is the amount of dividends paid over the past year divided by a company’s share price.
Price ratio compares the price of one security (or basket or securities) to another security (or basket of securities). In this case, the prices of two indexes are compared.
A real estate investment trust (REIT) is a closed-end investment company that owns income-producing real estate.
Relative performance refers to the performance of an asset or investment relative to another asset, investment or benchmark.
The consumer price index (CPI) measures change in consumer prices as determined by the US Bureau of Labor Statistics.
The CBOE Volatility Index® (VIX®) is a key measure of market expectations of near-term volatility conveyed by S&P 500 stock index option prices. VIX is the ticker symbol for the Chicago Board Options
Exchange (CBOE) Volatility Index, which shows the market’s expectation of 30-day volatility.
The Dow Jones U.S. Mortgage REITs Index comprises real estate investment trusts, corporations or listed property trusts that are directly involved in lending money to real estate owners.
The S&P 500 Real Estate Investment Trusts REITS Industry Index defines and measures the investable universe of publicly traded real estate investment trusts domiciled in the United States.
The S&P 500 Utilities Sector Index is an unmanaged index considered representative of the utilities market.
The S&P 500 Financials Index comprises those companies included in the S&P 500 that are classified as members of the GICS® financials sector.
The S&P Banks Index comprises stocks in the S&P Total Market Index that are classified in the GICS asset management & custody banks, diversified banks, regional banks, other diversified financial services and thrifts & mortgage finance sub-industries.
The S&P Insurance Select Industry Index comprises stocks in the S&P Total Market Index that are classified in the GICS insurance brokers, life & health insurance, multi-line insurance, property and casualty insurance and reinsurance sub-industries.
The S&P 500® Index is an unmanaged index considered representative of the US stock market.
The S&P 500 Diversified Financials Industry Group Index is a capitalization-weighted index that is considered representative of the diversified financials industry group.
An investor cannot invest directly in an index.
Past performance is no guarantee of future results.
There are risks involved with investing in ETFs, including possible loss of money. Shares are not actively managed and are subject to risks similar to those of stocks, including those regarding short selling and margin maintenance requirements. Ordinary brokerage commissions apply. The Fund’s return may not match the return of the Underlying Index. The Fund is subject to certain other risks. Please see the current prospectus for more information regarding the risk associated with an investment in the Fund.
Investments focused in a particular industry or sector are subject to greater risk and are more greatly impacted by market volatility, than more diversified investments.
Investments in real estate related instruments may be affected by economic, legal, or environmental factors that affect property values, rents or occupancies of real estate. Real estate companies, including REITs or similar structures, tend to be small and mid-cap companies and their shares may be more volatile and less liquid.
Treasury securities are backed by the full faith and credit of the US government as to the timely payment of principal and interest.
Shares are not individually redeemable and owners of the Shares may acquire those Shares from the Fund and tender those Shares for redemption to the Fund in Creation Unit aggregations only, typically consisting of 50,000, 75,000, 100,000 or 200,000 Shares.
The information provided is for educational purposes only and does not constitute a recommendation of the suitability of any investment strategy for a particular investor. Invesco does not provide tax advice. The tax information contained herein is general and is not exhaustive by nature. Federal and state tax laws are complex and constantly changing. Investors should always consult their own legal or tax professional for information concerning their individual situation. The opinions expressed are those of the authors, are based on current market conditions and are subject to change without notice. These opinions may differ from those of other Invesco investment professionals.
NOT FDIC INSURED
 MAY LOSE VALUE
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All data provided by Invesco unless otherwise noted.
Invesco Distributors, Inc. is the US distributor for Invesco Ltd.’s retail products and collective trust funds. Invesco Advisers, Inc. and other affiliated investment advisers mentioned provide investment advisory services and do not sell securities. Invesco Unit Investment Trusts are distributed by the sponsor, Invesco Capital Markets, Inc., and broker-dealers including Invesco Distributors, Inc. Each entity is an indirect, wholly owned subsidiary of Invesco Ltd. PowerShares® is a registered trademark of Invesco PowerShares Capital Management LLC, investment adviser. Invesco PowerShares Capital Management LLC (Invesco PowerShares) and Invesco Distributors, Inc., ETF distributor, are indirect, wholly owned subsidiaries of Invesco Ltd.
©2016 Invesco Ltd. All rights reserved.

The posts on this blog are opinions, not advice. Please read our Disclaimers.

How a Negative Interest Rate Affected the Japanese Bond Market

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Michele Leung

Director, Fixed Income Indices

S&P Dow Jones Indices

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Since the Bank of Japan announced a negative interest rate policy earlier this year, both government and corporate bond yields have decreased (see Exhibit 1).  After hitting a record low yield of -0.23% on July 8, 2016, the S&P Japan Government Bond Index rebounded following a modest stimulus announcement later that month.  As of Sept. 29, 2016, the yield was hovering around -0.05%.  In terms of market size, growth of the Japanese government bond market has been steady in recent years; it expanded 5% YTD as of Sept. 29, 2016, and it increased by a multiple of four, to JPY 1,115 trillion, since the index was first valued in 1998.  The S&P Japan Government Bond Index rose 3.87% for the year as of the same date.

The yield of the S&P Japan Corporate Bond Index held up relatively well; it only tightened 16 bps YTD as of Sept. 26, 2016, to 0.22%.  Among all the sector-level subindices, the S&P Japan Utilities Bond Index had the highest yield, at 0.43%.  The market value of the Japanese corporate bond market stood at JPY 75 trillion, representing 6.3% of the overall bond market.  As for total return performance, the S&P Japan Corporate Bond Index gained 1.09% YTD as of Sept. 29, 2016.

The S&P Japan Bond Index is designed to track the performance of local-currency-denominated bonds issued by Japanese entities.  As of Sept. 29, 2016, it tracked close to 6,000 bonds, with a market value of approximately JPY 1,190 trillion.

Exhibit 1: Yield-to-Worst of the S&P Japan Bond Index, S&P Japan Government Bond Index, and S&P Japan Corporate Bond Index20160929

The posts on this blog are opinions, not advice. Please read our Disclaimers.

Rieger Report: Mismatch - State Pension Short Falls & Muni Bond Market Returns

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J.R. Rieger

Head of Fixed Income Indices

S&P Dow Jones Indices

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S&P Global Ratings released a report on September 12th 2016 U.S. State Pensions: Weak Market Returns Will Contribute to Rise in Expense.  Importantly, the report identified the five worst and best funded state pensions.  You might think that an underfunded pension liability would mean the market would avoiding the municipal bonds issued by or within those states.  The market has determined otherwise.

Of the five states with the worst-funded pension ratios, three have outperformed the S&P Municipal Bond Index which has returned 4.16% year-to-date.   Limited supply of bonds and the ever present hunger for yield have a lot to do with the returns.

  • New Jersey, Illinois and Rhode Island municipal bonds started the year with impressive incremental yields over bonds from other states drawing attention from the yield starved market place.    As a result, the S&P Municipal Bond New Jersey Index has returned over 6% and the S&P Municipal Bond Illinois Index has returned over 5.1% year-to-date .
  • Kentucky has the worst-funded pension fund.  However, the lack of supply of bonds from Kentucky, including no state general obligation bonds,  keep any bonds from Kentucky in the sites of mutual funds seeking to further diversify away from the larger issuers.  The S&P Municipal Bond Kentucky Index has only modestly underperformed returning 3.88% year-to-date.

Table 1) Fiscal 2015 Five Worst-Funded Pension Ratios and Bond Returns (YTD)

Sources: S&P Global Ratings and S&P Dow Jones Indices, LLC. Data as of September 26, 2016. Table is provided for illustrative purposes. It is not possible to invest directly in an index. Past performance is no guarantee of future results.
Sources: S&P Global Ratings and S&P Dow Jones Indices, LLC.  Total return data as of September 26, 2016. Table is provided for illustrative purposes. It is not possible to invest directly in an index. Past performance is no guarantee of future results.

Bonds from only one of the five states with the best-funded pension ratios have outperformed the S&P Municipal Bond Index.  The S&P Municipal Bond South Dakota Index has seen a return of over 4.8% year-to-date with the lack of supply being a major factor.

Table 2) Fiscal 2015 Five Best-Funded Pension Ratios and Bond Returns (YTD)

Sources: S&P Global Ratings and S&P Dow Jones Indices, LLC. Data as of September 26, 2016. Table is provided for illustrative purposes. It is not possible to invest directly in an index. Past performance is no guarantee of future results.
Sources: S&P Global Ratings and S&P Dow Jones Indices, LLC. Total return data as of September 26, 2016. Table is provided for illustrative purposes. It is not possible to invest directly in an index. Past performance is no guarantee of future results.

Bottom line: supply and demand imbalances and yield hungry markets appear to be outweighing the fundamental factor of potential pension shortfalls.

Additional perspectives on this phenomenon in the municipal bond market are encouraged and welcomed.

 

The posts on this blog are opinions, not advice. Please read our Disclaimers.

Consistency: What Rolling Returns Say About Dividend Aristocrats

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Leks Gerlak

CFA, Investment Strategist

ProShares

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Historically, three-year rolling returns have revealed consistent outperformance from the S&P 500® Dividend Aristocrats® Index, which is composed of quality companies with at least 25 consecutive years of dividend growth.

Why look at rolling returns?
Rolling returns offer a more robust way to show performance than traditional one-, three-, five- and ten-year trailing returns. Rolling returns present numerous overlapping (rolling) increments, versus fixed trailing calendar periods that only let you see points in time. Since investors rarely buy and sell strictly by a calendar, rolling returns may help investors better assess historical performance.

Consistent Outperformance
When we chart 99 three-year rolling return periods (rolled monthly) for the S&P 500 Dividend Aristocrats Index since its inception (May 2005), we see it consistently outperformed the S&P 500 under almost all market conditions:

  • The Dividend Aristocrats outperformed during 95% of rolling periods from May 2, 2005–June 30, 2016.
  • The Dividend Aristocrats had lower relative volatility than the S&P 500 92% of the time.
  • And the Dividend Aristocrats produced excess returns over the S&P 500 during the financial crisis of 2008, in the subsequent rally and during the majority of the periods since then.

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The Takeaway
The S&P 500 Dividend Aristocrats Index invests in a select group of high-quality companies within the S&P 500—those that have grown their dividends for at least 25 consecutive years. The Dividend Aristocrats currently includes 50 well-known companies, over half of which have grown their dividends for an impressive 40 years or more.

Since its inception in 2005, this index has had an impressive track record of outperforming the broader S&P 500—with lower volatility—under a variety of market conditions. The index’s three-year rolling returns reveal the consistency of the index’s risk-adjusted return.

This information is not meant to be investment advice. 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. Past performance does not guarantee future results.

The posts on this blog are opinions, not advice. Please read our Disclaimers.

When Smart Beta Fails

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Craig Lazzara

Managing Director and Global Head of Index Investment Strategy

S&P Dow Jones Indices

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How should an investor in a factor (or “smart beta”) index judge its performance?  In this respect at least, smart beta is like any other strategy: you should evaluate it against the claims that its vendors made before you bought it.

This requires some subtlety.  Smart beta methodologies pick stocks based on fundamental or technical characteristics, and performance claims are derived from the historical behavior of those characteristics.  It’s the performance claims that gain or lose investor dollars.  For example, we pick the constituents of our low volatility indices based on their historical volatility; the record demonstrates that such stocks provide investors with protection in falling markets and participation in rising markets.  But investors buy low vol primarily because they like the idea of protection and participation, not because they care about how we get there.

That said, how often does low vol “fail?”  If we look strictly at the index’s fundamental characteristics, the answer is “hardly ever.”  Using daily data and a three-month lookback horizon, the S&P 500 Low Volatility Index is less volatile than the S&P 500 97% of the time; if we lengthen the time horizon to a year or more, Low Vol’s success rate is 100%.  So Low Vol is virtually always less volatile than its parent index.  These data, of course, ignore investment performance.

In performance terms, low volatility strategies can fail in two ways: by underperforming falling markets (a failure of protection), and by falling when the market goes up (a failure of participation).  Underperforming a rising market is not a failure – low vol strategies were never intended to outperform in all environments.  Here the record is still very strong.  The S&P 500 Low Volatility Index rises in 86% of the months when the S&P 500 rises.  In 83% of the months when the S&P 500 falls, Low Vol falls by less.  There have never been more than two consecutive monthly failures (and that rarely), which may be a function of the index’s quarterly rebalancing schedule.

The financial press has recently featured a surfeit of suggestions that defensive strategies will soon underperform.  They’ve all benefited, some more than others, from income-seeking bond refugees, which leads some observers to argue that when interest rates finally begin to rise, defensive equities will suffer as their advantage over bonds diminishes.  It’s a plausible argument, but it’s also a hypothetical, which means that no one can confirm or deny it definitively.  What we can say is that the historical record of defensive indices in rising rate environments is strong — and that periods when defensive indices fail have been rare and short.

The posts on this blog are opinions, not advice. Please read our Disclaimers.