Updated with correction
Capital Guardian Trust Co. is trying to convince institutional investors that their concerns about the volatility of the financial markets can be answered by the company's Absolute Income Grower strategy, which puts a high emphasis on investing in companies that pay and grow stock dividends.
The Los Angeles company's 7-year-old strategy is modeled after the successful Capital Income Builder mutual fund, with $79 billion in assets, which was launched by Capital Guardian's sister company, Capital Research and Management Co., in 1987. But the Absolute Income Grower had around $800 million in assets as of Oct. 30, a testament to the fact that institutional investors have been a lot slower than retail investors in embracing the strategy.
“It has been a challenge,” said Ted Samuels, Capital Guardian president, about his company's efforts to convince investors that the strategy is a good investment.
Mr. Samuels said he believes the strategy is poised for growth over the next few years, given investor needs for solid equity like returns while reducing volatility in their portfolios.
While Absolute Income Grower primarily invests in equities, the portfolio has about 20% of assets in fixed income, including a small portion in high yield. Mr. Samuels said the fixed-income portion of the portfolio can help reduce the overall volatility.
Over the fund's life, non-equity holdings ranged from 18% to 35%, according to data from Cap Guardian. Mr. Samuels said the challenge now is convincing consultants and institutional investors on the merits of the strategy, which doesn't fit into conventional style boxes.
“We think boxes are limiting,” said Mr. Samuels.
One investment professional knowledgeable about the strategy who asked to remain anonymous agreed, saying consultants are having difficulty accepting Absolute Income Builder because they can't classify it. “It doesn't fit well into a particular investment box.”
But Mr. Samuels said the strategy has been making inroads with some consultants who are becoming more enthusiastic about the product because it has less volatility than equities but can still provide equitylike returns.
Absolute Income Grower has had solid investment returns over the long term.
Between its inception on May 31, 2003, and Sept. 30, 2010, the fund's annualized returns have topped the MSCI World index, 7.16% vs. 6.47%. Volatility as measured by the standard deviation of returns also was lower, 11.39% vs. 16.44%.
The strategy did have some rough going in 2008 when it returned -27.02%, but it still topped the index's -40.71% experienced by the MSCI World index.
Through Sept 30 of this year, Absolute Income Grower had gains of 3.31%, net of fees, compared with the MSCI World index gain of 2. 58%.
Despite the comparison to the MSCI World index, Mr. Samuels says there is no exact benchmark for the strategy because it invests in multiple asset classes. But he said the lack of a benchmark fits in with the idea that after the 2000-‘01 market declines, investors started thinking more about capital preservation. He said investors were more worried about the preservation of their assets than fitting a strategy to a specific benchmark. Moreover, Mr. Samuels said more recent market turmoil should only reinforce the strategy's attractiveness.
“We believe the severe decline of 2008 proves again the value of dividends and made our early conclusions — that clients would focus more on capital preservation and income and less on simply surpassing an index, even more salient,” he said.
Mr. Samuels said although dividends have provided more than 40% of total equity return since 1926, since the early 1980s many investors have been ignoring their importance.
Mr. Samuels said the Cap Guardian strategy looks beyond dividends as the sole investment factor to focus on companies that increase dividends over time.
“To grow dividends over time, companies have to grow earnings; therefore our research is focused on a very powerful group of companies, “ he said.
Among companies in the strategy's current portfolio are International Business Machines Corp. and Emerson Electric Co., said Mr. Samuels.
The Research Corporation for Scientific Advancement is one foundation happy with its investment in the Absolute Income Grower, said Suzanne D. Jaffe, board member and finance committee chair.
The Tucson, Ariz., foundation has $9 million of its $125 million in the strategy, she said. The foundation has used the dividends from the strategy as income to fund its programs. In 2009, she said the endowment brought in $270,000 in income from the strategy.
“The appeal of regular dividends is important to us,” she said. “We need cash flow to maintain our operations.”
The chief investment officer of a $3 billion corporate pension fund who asked not to be identified said his plan had $100 million in Absolute Income Grower because he believes that dividends will become increasingly important in terms of achieving a combination of income and growing investment results together.
“There aren't too many opportunities for absolute returns if you don't want to take counterparty risk or use derivatives,” he said.
Mr. Samuels said he is he convinced other institutions will see the merits of the Absolute Income Grower in the next few years. “It's like a field of dreams,” he said. “If you build a superior record, ultimately the clients will come.”