Indexology^® Blog

“Be thankful I don’t take it all, cause I’m the taxman.”
George Harrison (The Beatles) in “Taxman”

For over 20 years, S&P Dow Jones Indices has compared index performance against actively managed funds and published the results in the SPIVA^® Scorecards. Active funds have often struggled to match the returns of capitalization-weighted benchmarks like the S&P 500^® or the S&P Composite 1500^® (see the SPIVA Global Mid-Year 2024). But even outperforming active managers have faced headwinds, including typically higher fees and particularly taxes, which can significantly erode performance, leaving even fewer managers capable of outperforming in the long run.

The SPIVA After-Tax Year-End 2023 Scorecard analyzes the cumulative effect of taxes on investor returns for broad U.S. domestic equity categories, demonstrating the improbability of beating a benchmark after accounting for taxes on capital gains and other distributions. In 2023, across the All Domestic Funds, All Large-Cap Funds and Large-Cap Core Funds categories, 79%, 66% and 74% of active managers underperformed their benchmarks after taxes, respectively. Fund manager underperformance rates worsened considerably compared to 2022, particularly for All Domestic Funds (see Exhibit 1).

A key reason for the higher underperformance rates in 2023 is that the impact of taxes on the returns of active funds was generally greater compared to the equivalent tax impact on the respective benchmarks. The 2023 median after-tax returns for All Domestic Funds, All Large-Cap Funds and Large-Cap Core Funds lagged their pre-tax medians by 1.2%, 2.8% and 2.1%, respectively, compared to 1.5%, 1.1% and 1.0%, respectively, in 2022. These differentials were considerably larger compared to the less than 0.5% impact for both the benchmark S&P 1500^® and S&P 500.

If the impacts of taxation on actively managed funds weren’t damaging enough, the sharp increase in long-term mutual fund outflows over the past couple years may have led to another unfortunate scenario for taxable investors. During 2022 and 2023, long-term U.S. mutual funds experienced a combined USD 1.765 trillion in net outflows.¹ These persistent outflows may have triggered tax bills for investors even in strong-performing markets.

While 2023 was a much different market regime than 2022 (characterized by a sharp rise of 26.3% and a severe downturn of 18.1%, respectively, for the S&P 500), one thing was the same in both years: active managers in broad U.S. equity categories found it difficult to beat their benchmarks, particularly when tax bills came due. To learn more about the effect of taxes on fund performance, please see the SPIVA After-Tax Year-End 2023 Scorecard.

The author would like to thank Joe Nelesen, Davide Di Gioia and Grace Stoddart for their contributions to this post.

¹   For more detail on long-term U.S. mutual fund flows, please see figures 3.3 and 3.4 (pages 46-48) in the 2024 Investment Company Fact Book.

The S&P/ASX 200 High Dividend Index seeks to measure the performance of the 50 companies with the highest 12-month forecast dividend yield from the S&P/ASX 200. Historically, the index has consistently delivered higher-than-market dividend yield and long-term outperformance against its benchmark. From July 2011 to September 2024, the index had an average trailing 12-month gross dividend yield of 5.5% and an annual excess return of 1.8% compared with the S&P/ASX 200.

Exhibit 1 shows the historical performance of the S&P/ASX 200 High Dividend Index. Year-to-date, the index experienced short-term underperformance against the market, lagging the S&P/ASX 200 by 3.6% as of Sept. 30, 2024. To better understand the source of the excess return, we are taking a closer look at the index’s short-term and long-term performance.

As Exhibit 2 shows, the YTD underperformance against the S&P/ASX 200 could be largely attributed to an overweight in the Energy and Materials sectors and an underweight in the Information Technology and Real Estate sectors. Increased weight in some high-yielding mega-caps such as Woodside Energy Group and Fortescue Ltd was the primary reason for the overweight in Energy and Materials. Lacking weight in Information Technology and Real Estate aligns with a high-dividend-yield strategy based on the S&P/ASX 200 Ex-A-REITs universe.

While overweighting Energy and Materials in the S&P/ASX 200 High Dividend Index has not delivered excess return YTD, it has been a major contributor to the long-term outperformance since 2021. From Dec. 31, 2020, to Sept. 30, 2024, the S&P/ASX 200 High Dividend Index had a total return of 68.2%¹ in contrast to 46.5% from the S&P/ASX 200. We can mainly attribute the outperformance to allocation effect rather than selection effect (see Exhibit 3). Financials, Materials, Health Care, Energy and Consumer Staples were the largest contributors. Over the longer term, the S&P/ASX 200 Index underweighted Health Care and Consumer Staples, while overweighting Financials, Materials and Energy.

To sustain a higher-than-market dividend yield level, the index selects eligible stocks from the S&P/ASX 200 based on forecast dividend yield. Some familiar names may be excluded due to low yield ranking. As of the July 2024 rebalancing, Wesfarmers, Commonwealth Bank Australia and Macquarie Group had a forecast dividend yield of approximately 3.5%, which is relatively low compared with the weighted average dividend yield of 5.5% for the S&P/ASX 200 High Dividend Index.

As Exhibit 4 shows, the S&P/ASX 200 High Dividend Index has been able to maintain a dividend yield that is about 1.5% higher than the market level for the past 10 years. As of Sept. 30, 2024, the trailing 12-month dividend yield of the S&P/ASX 200 High Dividend Index is 5.14%, while that of the S&P/ASX 200 is 3.47%.

Like all factor indices, the S&P/ASX 200 High Dividend Index has experienced performance reversions during the short term. More importantly, the index consistently targets companies with high dividend yield and has historically delivered some excess return in the long term.

¹ FactSet generated index return (see Exhibit 3) is 0.8% less than the official cumulative index total return of the S&P/ASX 200 High Dividend Index.

A renewed interest in Real Estate has emerged as declining interest rates tend to bring more favorable conditions to the industry. For 16 of the last 31 years in developed markets, the Real Estate sector has outperformed the broader equity market as measured by relevant indices.¹

The COVID-19 pandemic struck at the core of the Real Estate sector by shutting down offices, hotels, retail stores and more, while subsequent interest rate hikes by the U.S. Federal Reserve to mitigate inflation led to a divergence between these indices. Together, these challenges have hampered industry recovery efforts, keeping Real Estate index performance in negative territory over the past four years.

However, as the pandemic subsided, inflation was reduced to 2.4% in September 2024 from its peak of 9.1% in June 2022,² and interest rates started to decrease, interest in Real Estate re-emerged. This past year, Real Estate indices have experienced a resurgence in performance, with the Dow Jones Developed Markets Real Estate up 31.2% for the one-year period ending September 2024 (see Exhibit 1).

“Green” Real Estate investments have attracted global market interest, especially as reports show that total energy consumption and CO2 emissions in 2021 surpassed pre-pandemic levels, falling short of 2050 decarbonization goals.³ This trend makes benchmarks like the Dow Jones Developed Green Real Estate Index a critical tool to denote the index constituents that have demonstrated improved sustainabilty credentials and reduce physical risk exposure at the index level as outlined in the index methodology. Exhibit 2 provides a closer look at the key methodology attributes and data sources used in the index.

Exhibit 3 shows that the Dow Jones Developed Green Real Estate Index has historically tracked its benchmark, the Dow Jones Developed Markets Select RESI, very closely, which is consistent with a low tracking error.

Similar to traditional Real Estate indices, the Dow Jones Developed Green Real Estate Index has historically performed better during periods of decreasing rates, and it has historically underperformed when rates rise. This could be expected, as rising rates tend to decrease the profitability of Real Estate investments. For example, between Dec. 31, 2021, and Oct. 24, 2023, when the 10-Year U.S. Treasury rate increased by 343 bps, the Dow Jones Developed Markets Select RESI (USD, TR) was down 32.1%. Conversely, between Oct. 31, 2023, and Sept. 30, 2024, when the 10-Year U.S. Treasury rate dropped 114 bps, the index was up 38.8%.

Historical performance that closely tracks its benchmark is only part of the story; Exhibit 4 shows that the Dow Jones Developed Green Real Estate Index reflects strong score improvements relative to the underlying index.

Conclusion

The Dow Jones Developed Green Real Estate Index measures Real Estate companies through an ESG lens. By integrating environmental data and rigorous selection criteria, the index serves as a benchmark for market participants to monitor not just Real Estate performance but also ESG improvements of the Real Estate sector as companies in the sector seek to align with developing global sustainable initiatives.

¹ Reference is based on the Dow Jones Developed Markets Real Estate Index and the Dow Jones Developed Markets Index, which are sub-indices of the Dow Jones Global Index.

² CPI Home : U.S. Bureau of Labor Statistics

³ Source: U.N. Environment 2022 Global Status Report for Buildings and Construction Towards a zero-emissions, efficient and resilient buildings and construction sector. 2022 Global Status Report for Buildings and Construction | UNEP – UN Environment Programme.

In the immediate aftermath of the 2024 presidential election, U.S. equities soared on Wednesday, November 6, with the S&P 500^® up 3%, while small caps surged even higher, with the S&P SmallCap 600^® up a substantial 6%. Subsequently, on Thursday, November 7, the much-anticipated Fed rate cut of 25 bps came to fruition. With two previously uncertain macro events in the rearview mirror, the equity market sighed in relief, as VIX^® plunged to below the 15 handle, and the S&P 500 marked its 51^th record closing high of the year on Monday, November 11.

As we look ahead to the rest of Q4 2024, we can look to history to understand how equity markets typically reacted post-presidential elections. Looking back over 60 years, the S&P 500 rose in 13 out of the past 16 fourth quarters following a presidential election, or 81% of the time.

Turning our attention to smaller caps, albeit with a shorter history, Exhibit 1 illustrates that the S&P 600 rose in 6 out of the 7 fourth quarters following a presidential election since 1996, and it outperformed the S&P 500 in 5 of those quarters. Q4 2020 was a notable example, with a gain of 31% for the S&P 600. As of Nov. 11, 2024, the S&P 500 was up 4% and the S&P 600 was up 8% QTD.

While U.S. equity markets have typically rallied following a presidential election, the bond market’s movements have historically shown less of a directional trend, as shown in Exhibit 2. Looking back 60 years, 10-year U.S. Treasury yields increased in 9 out of the past 15 fourth quarters in presidential election years, or 60% of the time. A noteworthy decrease was in Q4 2008, when the market witnessed an extraordinary decline in yields as investors sought the safety of bonds amid the depths of the Global Financial Crisis. However, yields consistently increased following the last three elections, especially in 2016, upon rising inflation expectations and anticipated Fed rate hikes.

This year is no ordinary election year for bond market participants, as even though the Fed has cut rates twice, 10-year U.S. Treasury yields have increased and are up 50 bps QTD, perhaps due to lingering inflationary concerns that have been exacerbated by anticipated Trump policies, including tax cuts and tariffs.

Another oddity of this election year for the bond market is a yield curve that has begun to disinvert, as measured by the spread between 10- and 2-year U.S. Treasury yields in Exhibit 3. Since 1976, there have been only two presidential election years with inverted yield curves that subsequently disinverted. The first occurred in 1980, when the Fed was hiking rates to battle rampant inflation, and the second was in 2000, when the Fed was also raising rates to fight inflation during the dot-com boom.

The disinversion of the yield curve has been a traditional harbinger of a recession, as seen in 1980 and following the bursting of the tech bubble in 2001. This election year was also the first time a Republican contender beat a one-term Democratic president since 1980. Whether 2024 will follow in the footsteps of history remains to be seen.

Investment in infrastructure has long been a cornerstone of economic development. It has also been an interesting choice for investors, historically offering stable, predictable cash flows through long-term, inflation-linked contracts, as well as essential services that maintain demand even during economic downturns.

At the Crossroads of Multiple Driving Forces

In the wake of aging assets worldwide, ongoing climate challenges and an artificial intelligence-led digital revolution, the case for infrastructure investment today is more critical than ever. The current interest rate environment also provides useful context, as lower financing costs facilitate larger-scale projects. The U.S. Federal Reserve cut interest rates by 50 bps in September 2024, representing the first cut in four years, with more cuts anticipated throughout the remainder of 2024.¹

Global Infrastructure Assets: Updates Available

Many infrastructure assets around the world such as roads, bridges and water systems are reaching the end of their useful lives. In the U.S., for example, the average age of a bridge is 44 years, while the average lifespan for significant pipes and dams is 45 and 57 years, respectively.²

The same applies to Europe’s infrastructure, much of which was built during post-war periods. Aging water infrastructure in the U.K. is responsible for approximately 3 billion liters of daily water loss due to leaky pipes.³ Most of the continent’s nuclear reactors—a key source of energy in countries like France—were built in the 1970s and 1980s and were commissioned to last about 30 years.⁴ There is renewed interest in nuclear energy and other energy infrastructure to power the rising demand for artificial intelligence.

Governments worldwide face pressure to act by replacing worn-out assets and adopting advanced technology to extend asset life and improve efficiency. In the U.S., the Bipartisan Infrastructure Law, which was signed in 2021 and authorized USD1.2 trillion for transportation and infrastructure spending, has helped fund improvements on over 165,000 miles of roads, while also financing over 1,400 drinking water and wastewater projects across the country to ensure access to clean water.^{5, 6}

The Multi-Trillion-Dollar Gap

Global infrastructure is currently facing a considerable investment shortfall, with previous estimates suggesting a USD15 trillion gap by 2040 to meet worldwide infrastructure needs and achieve the UN Sustainable Development Goals (SDGs) for universal water and electricity access.⁷ A joint effort between public and private sectors is essential, harnessing the strengths of both channels to build resilient infrastructure—a basic tenet for a well-functioning and modern society.

Tracking Global Infrastructure with S&P DJI Indices

Typically, market participants invest directly in infrastructure assets or through the listed route in the form of publicly traded infrastructure companies.

The S&P Global Infrastructure Index measures the performance of publicly traded companies from around the world that are chosen to represent the listed infrastructure industry. The Dow Jones Brookfield Global Infrastructure Index measures the performance of pure-play infrastructure companies domiciled globally. To be eligible for inclusion, a company must derive more than 70% of its estimated cash flows (based on publicly available information) from infrastructure assets (see Exhibit 1).

Both indices have a global focus, measuring companies from around the world that are listed in developed markets to enhance tradability. While developed markets contend with aging infrastructure and modernization needs, emerging markets face added challenges related to population growth and urbanization.

The infrastructure theme encompasses multiple sectors of the global economy, providing a diversified view of activities related to this topic (see Exhibit 2).

Feeling the Heat: the Climate-Infrastructure Nexus

Climate change is another challenge, harming infrastructure through severe weather and rising sea levels, and leading to damage and higher repair costs. To address this, infrastructure must be purpose-built, in order to better handle climate challenges and reduce environmental harm.

The Dow Jones Brookfield Global Green Infrastructure Index measures the performance of selected securities from the Dow Jones Brookfield Infrastructure Plus Index, a curated universe designed to focus on thematic purity, while considering tradability.⁸ The former gives due consideration to measures of physical risk, total impact and reduced greenhouse gas (GHG) emissions. The index also features exclusions for companies involved in specific controversial business activities, for example, fossil fuel operations and power generation. Overall, it seeks to track the underlying index while aiming to improve selected index-level ESG characteristics; for example, targeting at least a 30% reduction in GHG emissions and an improved S&P Global ESG Score by excluding the lowest 25% of performers. As of Oct. 31, 2024, it included 73 of the 129 constituents from the underlying index.

The critical need for infrastructure investment presents a unique opportunity sitting at the intersection of several fundamental global issues. The Dow Jones Brookfield Global Green Infrastructure Index tracks pure-play infrastructure companies worldwide, while adhering to strict tradability rules and criteria that highlight selected companies and targets an improved ESG profile at the index level.

¹ Reuters (2024). “Federal Reserve to cut rates by 25 basis points at next two meetings: Reuters poll.” Available at: https://www.reuters.com/markets/rates-bonds/federal-reserve-cut-rates-by-25-basis-points-next-two-meetings-2024-10-29/

² Madden, J. (2024). “America’s Aging Infrastructure.” Blueprint. Available at: https://wp.nyu.edu/blueprint/2024/05/15/americas-aging-infrastructure/

³ Muggleton, J. (2023). “The UK’s water pipe upgrade has made it harder to detect leaks – now the race is on to discover new ways to find them.” The Conversation. Available at: https://theconversation.com/the-uks-water-pipe-upgrade-has-made-it-harder-to-detect-leaks-now-the-race-is-on-to-discover-new-ways-to-find-them-209537

⁴ Ferreira, V. G. (2024). “Strategic autonomy and the future of nuclear energy in the EU.” European Parliamentary Research Service (EPRS), February. Available at: https://www.europarl.europa.eu/RegData/etudes/BRIE/2024/757796/EPRS_BRI(2024)757796_EN.pdf

⁵ Pipeline and Hazardous Materials Safety Administration. (2023). “Bipartisan Infrastructure Law (BIL) / Infrastructure Investment and Jobs Act (IIJA).” United States Department of Transportation. Available at: https://www.phmsa.dot.gov/legislative-mandates/bipartisan-infrastructure-law-bil-infrastructure-investment-and-jobs-act-iija

⁶ The White House. (2024). “FACT SHEET: Biden-Harris Administration Kicks Off Infrastructure Week by Highlighting Historic Results Spurred by President Biden’s Investing in America Agenda.” The White House. Available at: https://www.whitehouse.gov/briefing-room/statements-releases/2024/05/13/fact-sheet-biden-harris-administration-kicks-off-infrastructure-week-by-highlighting-historic-results-spurred-by-president-bidens-investing-in-america-agenda/

⁷ George, A., Kaldany, R.-R., & Losavio, J. (2019). “The world is facing a $15 trillion infrastructure gap by 2040. Here’s how to bridge it.” World Economic Forum. Available at: https://www.weforum.org/stories/2019/04/infrastructure-gap-heres-how-to-solve-it/

⁸ The Dow Jones Brookfield Global Infrastructure Plus Index is designed to measure the performance of companies from the Dow Jones Brookfield Global Infrastructure Index and the S&P Global Infrastructure Index. The index is subject to a 75% floor on the weight of all constituents selected from the Dow Jones Brookfield Global Infrastructure Index to focus on thematic purity whilst considering tradability. For more information, please see the index web page.