(Pictured: Olivia Engel)
There not many signs that companies are starting to reinvest in capital expenditure. More worryingly, they are leveraging and raising fresh capital to, largely, maintain or even increase dividends. A report by State Street Global Advisors points out both dividend per share and the payout ratios of ASX companies have risen by almost 10 per cent this year.
The report, for investors in SSgA’s Australian managed volatility strategy, says Australian company debt levels – median debt/EBITDA ratio – have risen 25 per cent in the year to date. Equity issuance is also up at about $30 billion. But forward estimates of S&P/ASX200 company CAPEX have declined by almost 4 per cent in the calendar year (to November 8). Capital expenditure has been on the decline since the middle of last year.
The point for SSgA is that equity issuance and leverage should be incorporated in the stock selection decision, as it is for the managed volatility fund, along with quality metrics, valuation, growth potential and sentiment.
Volatility is a relatively new “style” of investing. There’s now considerable evidence that low-volatility stocks outperform over extended periods. But as with all styles, there are cycles.
Olivia Engel, the head of active quantitative equity, APAC, for SSgA, says: “There can be periods of underperformance from any one-dimensional investment strategy. For example, value managers can underperform for significant periods of time too.
“It is important to take a holistic assessment of the characteristics you want in your investment portfolio. The approach SSgA takes for the Australian Managed Volatility Alpha strategy is not one dimensional. It formulates an expected return for every company in the S&P/ASX300 universe based on the valuation of companies, strength of balance sheet, evidence that earnings are smooth and dividends are sustainable. The volatility of each stock is also estimated, along with how the companies are correlated. Then the portfolio is constructed that balances the risk return trade-off.
“By choosing companies based on both their total risk and total return expectations, the return path for the investor is smoothed and the returns are still strong. When volatility as a characteristic is not performing strongly, other characteristics will perform. The important thing is that the risk managed is total return volatility, not benchmark-relative risk or tracking error.”