QQQ - SCHD: A Winning Combination Of Income And Growth

2023-04-19 10:50:42 ET

Summary

• SCHD has continued to offer a sustainable balance between growth and income for the past ten years, due to its well-diversified and mature portfolio.
• The ETF's passive management style and lower turnover rate have also helped improve its investors' returns, attributed to the lower transaction costs.
• Largely thanks to the recent banking crisis, SCHD also provides an expanded forward dividend yield of 3.57%, compared to its 2022 average of 3.15% and 2019 average of 2.91%.
• While there is a chance of a mild recession over the next two years, we reckon SCHD's performance may remain exemplary in weathering the uncertain macroeconomic conditions.

Buying SCHD At Compressed Values

SCHD & Dividend ETF 1M Price

The recent banking crisis had significantly shaken the stock market and banking industry over the past month, triggering notable declines in the Schwab U.S. Dividend Equity ETF ( SCHD ) price by mid-March 2023.

SCHD & Other ETF YTD Price

Unsurprisingly, SCHD's YTD performance had also been impacted at -2.49%, with the ETF recording a slower recovery than its dividend ETF peers, such as iShares Select Dividend ETF (NASDAQ: DVY ) at -1.29%, SPDR S&P Dividend ETF (NYSEARCA: SDY ) at -1.11%, Vanguard High Dividend Yield ETF (NYSEARCA: VYM ) at -0.34%, and iShares Core High Dividend ETF (NYSEARCA: HDV ) at +0.27%.

The former's recovery also naturally lagged behind ETFs tracking high-growth/ popular indexes, such as Invesco QQQ Trust ETF (NASDAQ: QQQ ) at +20.56% and S&P 500 (NYSEARCA: SPY ) at +8.77%.

Re-Steepening Treasury Yield Curve By the End of March 2023

The uncertain macroeconomic outlook was made further volatile by the steepening Treasury yield curve by the end of March 2023. JPMorgan Chase & Co (NYSE: JPM ) highlighted that this trend historically points to the start of recessions and weakening growth outlooks.

The Fed was already implying the possibility of a mild recession by H2'23, with the March CPI data still pointing to a sticky inflation rate. As a result, it remains to be seen how the Fed may proceed ahead, since it appears market analysts still expect to see another 25 basis point hike in the May 2023 meeting.

SCHD 10Y Total Returns, Including Dividends

However, here is where SCHD's moderation comes as an opportunity for interested investors, especially due to its robust record in delivering sustainable growth and consistent dividend payout over the past ten years.

While past performance is not indicative of future results, the dividend ETF has outperformed with +318.49% of 10Y total returns (including dividends) at a CAGR of 8.65%. This is compared to the other dividend ETF peers, such as SDY at +254.65%/ 6.37%, VYM at +253.15%/ 6.74%, DVY at +239.07%/ 6.26%, and HDV at +198.30%/ 4.31% at the same time.

Interestingly, SCHD's 10Y performance has more or less matched SPY at +310.34%/ 10.10% (including dividends), though lagging behind QQQ at +514.12%/ 16.73%. Then again, the chart above also demonstrates QQQ's extreme volatility at -34% between its peak in December 2021 and bottom in October 2022, compared to SPY at -23.9% and SCHD at -17.7%.

Furthermore, the recent moderation in SCHD's prices has triggered an improved forward dividend yield of 3.57%, compared to its 2022 average of 3.15% and 2019 average of 2.91%. Its dividend yield is also better than SDY at 2.52% and VYM at 3.07%, though relatively in line with DVY at 3.57% and HDV at 3.83%, suggesting its suitability for investors seeking both growth and yield in a less volatile dividend ETF, against SPY at 1.56% and QQQ at 0.68%.

SCHD 2Y ETF Price

In addition, the SCHD ETF successfully bounced from its March 2023 support, suggesting an improved margin of safety for long-term investing. The investors' support is also visible in the inflow of funds at $3.42B by FQ1'23 (+85.5% YoY), much improved compared to SDY at -$476.95M (-172% YoY), VYM at -$24.24M (-101% YoY), DVY at -$574.91M (-145% YoY), and HDV at -$1.65B (-271% YoY), based on data from ETF.com.

SCHD's Top 10 Portfolio

This phenomenon may be significantly aided by SCHD's well-diversified defensive portfolio , across pharmaceutical stocks, consumer staples stocks, oil/gas stocks, and telecommunication services, amongst others. A more mature and stable portfolio is also demonstrated by the 61.07% share of large-cap companies in its portfolio by the end of December 2022, as opposed to volatile and high-growth stocks.

Combined with the fact that the largest holding only represents less than 5% of the index and the sector at less than 25%, we reckon the ETF may be one of the safer options out there for conservative investors seeking a great balance between quarterly income and consistent growth.

This is on top of SCHD's lower turnover rate of 31.04% against the median of 39% , lower expense ratio of 0.06% against the average of 0.44% in 2022 , and passive management style. These factors naturally demonstrate the fund's focus on "the quality and sustainability of dividends," instead of chasing high yields which naturally comes with higher volatility.

SCHD's Excellent Returns After Taxes

SCHD's lower turnover rate has also contributed to its excellent average annual total returns of 11.26% (after taxes on the fund's distributions of dividends and capital gains) for the past ten years, attributed to the lower transaction costs, according to the SCHD report released on March 31, 2023.

As a result of the positive factors discussed above, we are rating the SCHD ETF as a buy here, with the caveat that investors include it as part of their diversified income and growth portfolios.

There may also be further tailwinds for SCHD's long-term recovery, due to the signs of cooling in the US labor market by March 2023. With only 236K jobs added (-27.6% MoM), the number suggests the lowest sequential expansion since December 2019 (barring the COVID-19 pandemic).

In addition, there are increased claims for unemployment to 240K (+20% MoM), on top of the deceleration in the annual payroll growth to 4.2% (-0.4 points MoM) and hours to 34.4 per workweek (-0.1 MoM). These are positive developments, potentially nearing the end of the Fed rate hike, as highlighted by Daniel Zhao, an economist from Glassdoor:

The labor market continues to remain resilient and is a pillar of strength. The Fed is looking for balance from the labor market, and today's report is a step in the right direction. ( CNN Business )

Either way, assuming a potential bull market from 2025 onwards, we believe we may see SCHD return to its previous cadence of sustainable growth through the end of the decade, compared to the sideways actions that we have been seeing since May 2021.

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