DJD ETF Deserves More Attention, But a Hold Looks Appropriate Right Now (NYSEARCA:DJD)

Introduction

The Invesco Dow Jones Industrial Average Dividend ETF (NYSEARCA:DJD) is a $300 million product that provides concentrated access to the dividend-paying stocks of one of the oldest stock benchmarks – the Dow.

DJD does not use strict barriers when selecting their shares and this is exemplified by a requirement for only a 12-month dividend payment history, with no additional indicator for sustainability. Finally, these stocks are weighted with the indicated annual dividend yield, which is only a function of the current trailing yield.

However, despite the lack of sufficiently robust instruments, note that DJD has done quite well over the past year, generating returns of 21% and also outperforming its parent index in the process.

If you’re considering a position in this top performer, here are a few things to keep in mind.

It stands up pretty well against SPYD

Besides The Dow, the other much-discussed giant of diversified stocks is the S&P500. What would happen if the main dividends of the latter were followed. Well, in that regard, we should look at the SPDR® Portfolio S&P 500® High Dividend ETF (SPYD), which also uses the indicated annual return to determine the top performers in the main benchmark.

We think SPYD would also be an apt comparison as it made its market debut in the same year as DJD (2015). Note, however, that investor interest has been largely directed towards SPYD, and this is reflected in a whopping $6600 million AUM, which is 21 times the AUM level of DJD! Meanwhile, the daily dollar volumes seen in the SPYD counter (around $50 million) also exceed the average volumes seen in DJD (less than $1 million).

Looking at the structure and risk-adjusted performance of these two products, we don’t necessarily see why SPYD should attract much more interest.

SPYD clearly has a much broader base to fish from, which is reflected in its reach, as it covers over 80 producers from the S&P500, while DJD focuses on just 30-odd names. But as you’ll see later, a large number of stocks doesn’t necessarily translate into better risk-adjusted returns.

In terms of efficiency, there is nothing to choose between the two products, as both can be raised at identical expense rates of 0.07%; however, DJD appears to be the more stable offering with an annual churn rate of 30%; this is also a function of the smaller universe it deals with. SPYD, on the other hand, has the luxury of 500 stocks to choose from, and thus we see a much larger loss, where nearly 1 in 2 stocks are churned every year.

Of course, investors who don’t like products with strong concentration effects may not like DJD too much, given its disproportionately large weighting in the top 10, which accounts for nearly two-thirds of the portfolio. In this regard, SPYD is much more balanced, with its top 10 contributing just 14% of the portfolio.

Where SPYD really amazes is perhaps its yield, which has been consistently higher than DJD’s figure and is currently perched at an attractive figure of over 4% (nearly 100bps more than DJD).

However, consider the absolute return and risk-adjusted return profile of these two products as well, and it is here that our focus product – DJD shines.

In the pre-pandemic era, it was a tight battle between the two as they continued to battle each other in various phases, but since the lows of the pandemic, DJD has consistently remained on top. Overall, since inception, DJD has outperformed its senior by 2700 bps!

However, absolute returns only tell half the story; It is also important to see if these products offer acceptable returns commensurate with the total risk taken, or when the chips are down (during the pullback phases). To better understand this, we looked at the Sharpe and Sortino ratios from the start, and in both scenarios, note that DJD does a better job than SPYD.

Some of this could be partially driven by DJD’s strong tilt toward giant and large caps (91% of total portfolio) that have largely outperformed in the post-pandemic era (SPYD is more geared toward midcaps that have a 70 %). stake and also has some exposure to the riskier side of the market – small caps, which is 7%).

Closing Thoughts – Is the DJD ETF a Good Buy Now?

As suggested in the previous section, given its low and stable cost qualities and its ability to facilitate strong risk-adjusted returns, we believe DJD deserves better attention than it is getting. However, that doesn’t mean the product is a good buy right now.

First, we have some concerns about its tilt toward industrial stocks, which make up the bulk of the portfolio. As it stands, apart from the materials sector, no other sector generated weaker earnings or an increase in earnings.

A study from FactSet also showed that industrial stocks frequently brought the term recession. Additionally, some of the internals in the latest ISM survey suggest that things could remain tough going forward. The manufacturing PMI remains in contraction territory for 5 consecutive months, while the leading indicator for new orders and inventory build-up suggest that demand conditions look weak.

Then, as mentioned earlier, DJD’s outlook will also be heavily influenced by how its top 10 stocks are perceived. Many of these stocks are pursued solely for the returns they offer, but it’s questionable whether now is the best time to load them. The image below measures the weighted average current return against the 4-year average, and given the price appreciation of these stocks, the current figure looks pretty unappealing compared to what we normally get. Of course, the weighted average is skewed by 3M Company ( MMM ), which has a significant double-digit weight, but 3M’s dividend narrative appears to be declining as a result of the Solventum spin-off and the prospect of higher legal costs.

Turning to the relative strength (RS) charts, it appears that investors who believe in the concept of mean reversion may rotate from the DJD to the high returns of the S&P500. DJD’s current RS to SPYD ratio is about 11% higher than its long-term average and is at risk of mean reversion.

Also note that DJD’s current P/E valuation of 16.6x is about 6% higher than SPYD’s corresponding multiple.

Finally, we close with some thoughts on DJD’s weekly standalone chart, which suggests that the price action now looks overextended after an encouraging breakout. From November 2020 to May of this year, the ETF moved sideways, we saw an attempt to break out of this range in mid-May, only for the selloff to resurface. We then saw another attempt in July, and although there was a pullback, the ETF was able to defend its breakout area and continue higher. Now, after 4 consecutive weeks of green body candles, it looks like DJD could do with a break or pullback as price is now trading above the upper Bollinger band (which translates to 2 standard deviations from the 20 moving average of periods). As a result, we think a HOLD seems appropriate now.