Note: This article is courtesy of Iris.xyz
Just as a famous artist can have an influence beyond their chosen genre of art and beyond the arts entirely, the world of finance can see the influence of a particular metric or practice reverberate far beyond its initial purpose. As we look at the world of smart beta as a wave into the future, it makes sense to examine the role that dividend indexes played in popularizing smart beta and note how relevant these still are today.
Dividend indexes are comprised of public companies that pay dividends to shareholders. It was dividend-paying companies that were the focus of the earliest smart beta index funds .
There were good reasons why dividend stocks were a leading driver of early-stage smart beta indexes, and these same factors hold true today. Keeping track of what stocks are paying dividends and how they are positioned in the market is an essential step for getting a handle on equities and making sure you can leverage the market with the highest efficiency. The arguments that propelled dividend stocks into the early stages of smart beta still hold true today:
Companies that distribute dividends tend to be better managed and more stable.
Those companies that are in a position to distribute cash payments to its equity owners are typically companies that have reached a certain size and are able to leverage their critical mass and stability in order to take care of its shareholders. If a company is trying to expand rapidly or finds itself in the middle of a reorganization, it will likely not be able to pay dividends. That rapid growth is good, but it comes at the cost of a sharp increase in risk.
Dividends can clue an investor into the very basic value of the company.
A stock trading below its value is a valuable one to have in a long-term portfolio, and discerning true value via dividends can help investors ferret out those stocks that may be punching below their weight today but show the promise of great gains in the not-to-distant future. A time-tested method of valuing a stock is the Dividend Discount Model , which uses projected company dividends to calculate what shares are actually worth.
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This article was provided by our partner Tom Lydon of etftrends.com.