The two primary avenues of shareholder rewards are buybacks and dividends. Plenty of exchange-traded funds focus on dividends while a handful of others are dedicated to share buybacks and/or net reductions in shares outstanding.
Some ETFs offer investors leverage to both themes and do so in a surprising arena: Small-cap stocks. One of those ETFs is the WisdomTree U.S. SmallCap Quality Dividend Growth Fund (NASDAQ:DGRS). While the rising number of dividend-paying small-caps as well as the potency offered by such is well-documented, the idea of significant share buyback activity among smaller companies remains overlooked.
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DGRS, which tracks the WisdomTree U.S. SmallCap Quality Dividend Growth Index, offers investors a unique way of capturing small-cap income and buybacks under one ETF umbrella.
At the end of the third quarter, the WisdomTree U.S. SmallCap Quality Dividend Growth Index was one of just two major small-cap benchmarks that had a positive buyback yield, according to WisdomTree data. Additionally, the trailing 12-month dividend on DGRS was about 100 basis points above the Russell 2000 Index and the S&P SmallCap 600 Index.
The net buyback ratio can be particularly useful when evaluating individual small-caps because negative ratios can be a sign of companies issuing new shares to raise capital.
Its also notable to compare the S&P SmallCap 600 Index, the MSCI USA Small Cap Index and the Russell 2000 Index in terms of their net buyback ratios, said WisdomTree. They are all negative (meaning that in aggregate these firms are issuing shares), but the Russell 2000 Index was approximately three times as negative (meaning approximately three times as much share issuance) as the S&P SmallCap 600 Index.
DGRS allocates nearly half its combined weight to consumer discretionary and industrial stocks, which are two of the top sectors at the large-cap level in terms of share buybacks. The same is true for financial services, a sector that accounts for almost 17 percent of the DGRS roster.
For long-term small-cap investors, buybacks can be signals of quality and financial strength.
So, the long-term data would suggest that small-cap stocks that are buying back their shares have tended to generate stronger long-term returns than small caps that are issuing more shares, said WisdomTree. We mentioned earlier that both the WisdomTree U.S. SmallCap Quality Dividend Growth Index and the WisdomTree U.S. SmallCap Earnings Index are positioned to screen out low-quality firms that may be at greater risk of issuing shares to raise new capital.
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