Evaluating Performance
In my previous analysis of the Schwab U.S. Dividend Equity ETF (NYSEARCA:SCHD), I held a neutral/hold rating. I also anticipated that the JPMorgan Equity Premium Income ETF (JEPI) would outperform SCHD. Let’s assess how these predictions have fared:
SCHD has delivered a return of +9.6% on a total shareholder basis, notably lower than the S&P500’s (SPY) return of 18.13%, resulting in a negative alpha of 8.53%. This was a significant deviation from my assessment. In retrospect, a bolder stance, perhaps even issuing a sell recommendation, was warranted given the end of SCHD’s Alpha Party.
Reflecting on missed opportunities to be assertive in my calls and drawing confidence from recent assessments, such as those on Ares Capital (ARCC) and Berkshire Hathaway (BRK.B) (BRK.A), I have been more emboldened in my ratings, always keeping a keen eye on relative performance against the S&P500, the defined benchmark/opportunity cost.
Assessing the JEPI outperformance thesis against SCHD, both funds have returned around +9.60%, indicating that my initial prediction did not significantly materialize. However, a closer examination reveals that the anticipated alpha has effectively nullified over the recent months, thereby resulting in a neutral performance.
Upgrading SCHD to a ‘Strong Buy’
I am revising my stance on SCHD from ‘Neutral/Hold’ to a ‘Strong Buy’, expecting it to outperform the S&P500 (SPY). The rationale for this upgrade will primarily focus on comparing the net exposure profiles of SCHD and SPY:
Assessing Net Exposures of SCHD vs SPY
The graphical summary of the net industry-level overweight and underweight exposures of SCHD compared to SPY presents a compelling overview. Further analysis of the specific values and key industries reinforces my belief in the favorable net exposure.
Further scrutiny of the net sector-level exposures forms the bedrock of my preference for SCHD over SPY. This data underscores the basis of my thesis, offering a valuable reference point.
Favorable Underweight Exposures
Systems and Application Software, Information Technology
SCHD exhibits a 16.0% underweight stance compared to SPY in the Information Technology Sector, with Systems and Application Software contributing significantly. This positioning is advantageous due to the current high valuations of the US technology sector, presenting a narrow margin of safety for potential investors.
Transaction and Payment Processing Services
SCHD’s 2.4% underweight exposure to the Transaction and Payment Processing Services Industry aligns with my preference, considering the evident growth moderation in this sector. For example, recent analyses of PayPal (PYPL) and Block (SQ) demonstrate a notable deceleration in growth, signaling a need for cautious optimism in this segment.
Insightful Market Analysis and Positioning Strategy
The market, akin to a complex and intricate tapestry, weaves together a melange of industries, sentiments, and valuations. Unraveling each thread with perspicacity is a perceptive and compelling pursuit. As we peer behind the veil of numbers and projections, we must navigate the tempestuous currents of market dynamics with sagacity.
Favorable underweight:
Broadline Retail
The retail sector, often likened to a mercurial beast, demands keen scrutiny, for within its ebbs and flows lies a vital pulse of the economy. The murmurs from the alcove of US Retail Sales data resonate a lackluster melody, portending a tepid rebound, thus warranting a prudent underweight stance in this sector.
Favorable overweight exposures
Asset Management and Custody Banks
The anticipation of potential rate cuts in 2024 stirs the cauldron of capital markets activity, paving the way for a propitious environment for asset management and custody banks. This augurs well for such ventures, as the rising tide may lift their boats to new heights.
Soft Drinks and Non-Alcoholic Beverages
The global soft drink market, akin to a garden in full bloom, offers a promising vista of growth. The interplay of volume and pricing growth sows the seeds of robust potential, with a refreshing aroma of growth wafting through this mature industry.
Valuation
A tantalizing prospect awaits discerning investors, as SCHD trades at a PE ratio of 15.14x, embodying a 28.2% discount compared to SPY. This healthy valuation discount imbues SCHD with a reassuring margin of safety, akin to a sturdy fortress amidst market fluctuation.
Key Risks and Monitorables
The specter of underperformance looms large, epitomized by the 16% underweight in the Information Technology sector. The pivotal absence of big tech stalwarts, such as Microsoft, Apple, and NVIDIA, from SCHD’s ambit beckons vigilant scrutiny, as their strides may chart the course of SCHD’s trajectory.
Takeaway & Positioning
The chronicles of performance unveil a tale of underperformance by SCHD, yet this tempest has bestowed a deeper clarity upon the fortitude of our convictions. As the mantle of ‘Strong Buy’ is draped upon SCHD, the strategic positioning steers clear of technology and retail, while hoisting the sails in the bountiful realms of asset management and soft beverages.
- Technology
- Transaction and Payment Processing Services
- Broadline Retail
- Asset Management and Custody Banks
- Soft Drinks and Alcoholic Beverages
The canvas is awash with hues of promise, as the favorable valuations of SCHD, juxtaposed against potential market headwinds, beckon a prudent yet resolute approach.
The symphony of market intricacies is poised on the precipice, with the crescendo of earnings surprises in Microsoft, Apple, and NVIDIA resonating as a clarion call to discerning investors. A strategic pivot to SCHD unfurls before us, a decision that echoes the dexterity of a tactician amidst shifting tides.
How to interpret Hunting Alpha’s ratings:
Expectations mapped against the S&P500 unveil a spectrum of confidence, akin to a bard’s tale finding resonance in the soul of the reader. The ebb and flow of market prognostications enrich the journey of an astute investor, turning each page with rapt attention and discerning acumen.
Editor’s Note: This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.
