Eric Ervin is the CEO of Reality Shares. Reality Shares creates research-driven, innovative investment products – including ETFs – to help reduce the effects of market noise and emotion on dividend investor performance.
The company has several new innovative dividend ETFs. The company’s dividend ETFs should be considered when looking for the best dividend ETFs. Reality Shares innovative new dividend ETFs include:
- DIVCON Dividend Leaders Dividend ETF (LEAD)
- DIVCON Dividend Defender ETF (DFND)
- DIVCON Dividend Guard ETF (GARD)
Eric Ervin’s interview is below. My questions to him are in bold.
You have an impressive background, I’m glad to have you on Sure Dividend. Please tell my audience a little about yourself, your career, and your experience creating ETFs and investing in general.
[drizzle]Eric Ervin: Thank you. I currently serve as President and CEO of Reality Shares, a firm solely focused on dividend growth investing. Before co-founding Reality Shares, I worked at Morgan Stanley for 14 years, building a wealth management franchise as a Certified Financial Planner practitioner and Chartered Financial Consultant.
At Reality Shares we offer a range of alternative ETFs pinpointing and capitalizing on investment in dividend growth and the stocks most likely to increase their dividends, as well as avoiding those most likely to cut their dividends.
The performance of the DIVCON system is very impressive. How did you come up with this strategy, and what is it designed to do?
Eric Ervin: Across the field of dividend investing, virtually all dividend-based strategies use rear-view mirror results as an indicator of future dividend growth. We wanted to come up with a strategy with a forward-looking focus on future dividend growth rather than using a purely historical look at historical dividend changes.
DIVCON forecasts and ranks a company’s ability to increase or decrease its future dividends by evaluating each firm based on seven quantitative factors, seeking to deliver a more accurate picture of a company’s fiscal health and better predict the probability of an increase or decrease in a company’s dividend over the next 12 months. While past performance does not guarantee future results, in back-tested analysis of the DIVCON methodology from 2001 through 2015, companies rated in the highest tier by the DIVCON index system (DIVCON 5) increased their dividend 96.6% of the time. DIVCON’s unique methodology offers advisors and investors a systematic way to assess dividend growth probability and use this information to make better informed investment choices—with the potential to outperform the market or provide stability in a volatile environment.
As a forward-looking tool, DIVCON offers some benefits compared to the Aristocrats and Dividend Achievers methodologies. For one, companies with long histories of increasing dividends will not offer the same future dividend growth potential compared to younger companies with solid fundamentals. Second, backward-looking strategies like the Aristocrats and Dividend Achievers are much more prone to dividend cuts. For example, during the Financial Crisis, there were 13 dividend cuts from the Aristocrats and 55 cuts from the Dividend Achievers, compared to 0 dividend cuts from the DIVCON Leaders stocks.
Who is the ideal investor for your 3 different DIVCON ETFs?
Eric Ervin: LEAD is designed as a large-cap equity allocation. As a high-quality portfolio of just the companies most likely to raise dividends in the next 12 months, LEAD offers the potential for better downside protection as it holds many of the names that institutional managers are least willing to sell, even during downturns.
DFND offers investors more of a balanced return. It tracks the market but aims to reduce the downside by utilizing a continuous hedged component that shorts the stocks most likely to cut their dividends. DFND is great for investors looking to stay in the markets at all times or seek a solution during market underperformance.
GARD is meant for investors desiring some downside protection when the markets are in a negative environment, while offering upside when markets are positive. GARD was created to allow investors that want an automated portfolio component that can dynamically allocate in and out of the market depending on the market environment alongside a position in the highest quality dividend growers. It is an equity oriented substitute with a defensive aspect.
The DIVCON system had 2 metrics I’m not familiar with. The Repurchase / Dividend Ratio is one of them. How does this ratio work; is a higher ratio or lower ratio better for future dividend growth?
Eric Ervin: The Repurchase/Dividends ratio represents the ratio of the company’s allocations to stock repurchases vs. dividend payouts. Contrary to what you may think, a higher ratio is still better in this case as it shows the company has more financial resources available to allocate away from repurchases and into dividend increases. Considering share buyback programs are more voluntary than dividend payments, if earnings decline, the company with a share repurchase program and a dividend policy, can eliminate the share buybacks in order to maintain the dividend. The share repurchase program acts as a buffer to the potential for dividend cuts.
The other metric I’m not familiar with is the BBG Score. Can you explain this metric and how it works?
Eric Ervin: The Bloomberg Dividend Health Score is developed and maintained by Bloomberg. It serves as an alternative metric gauging the overall dividend health of publicly traded companies and is one of the seven factors we include in our DIVCON analysis. It is based on a scale of -100 (unhealthiest) to 100 (healthiest).
What is the expected portfolio turnover of your DIVCON system ETFs?
Eric Ervin: From 2001 through 2015, the average historical turnover was around 71% for the LEAD portfolio, 82% for the DFND portfolio and 97% for the GARD portfolio. Each underlying portfolio is rebalanced once a year in December. However, ETFs are more tax efficient than mutual funds due to the process of how new shares are created/redeemed. When an investor redeems shares of a mutual fund, the issuer must sell securities to raise the cash needed for that redemption this creates a taxable event for all shareholders in the fund. When an investor sells an ETF, it is simply sold to another investor on the open market just like a stock, meaning no capital gains transaction is involved for the ETF issuer, only for the individual participant selling shares. And it’s even more beneficial to ETF issuers when Authorized Participants (APs) redeem shares. Issuers typically pay the AP “in kind,” delivering the underlying holdings of the ETF, avoiding the taxable event. To further illustrate this point, ETF.com compared emerging market mutual funds to emerging market ETFs over the past two decades, and the average mutual fund paid out 6.46% of its NAV in capital gains to shareholders each year, while the average ETF paid out only 0.01% over the same stretch.
The Guard Indicator on your GARD ETF is interesting. How did you come up with it? Will you explain in brief to my audience how it works?
Eric Ervin: When developing the Guard Indicator, we sought to create a quantitative market timing system capable of capturing big moves in the markets before they happened through the use of probability. The Guard Indicator works by identifying periods of downtrend across the S&P 500 sectors by analyzing two factors, downside deviation in volatility and