Madison Funds, an investment management firm, published its “Madison Dividend Income Fund” second-quarter 2021 investor letter – a copy of which can be downloaded here. A quarterly portfolio return of +4.60% was recorded by the fund’s Class Y shares for the second quarter of 2021, compared to the S&P 500, Russell 1000 Value, and Lipper Equity Income Index gains of +8.55%, +5.21%, and +5.50% respectively for the same period. You can view the fund’s top 5 holdings to have an idea about their top bets for 2021.
In the Q2 2021 investor letter of Madison Funds, the fund mentioned Aflac Incorporated (NYSE: AFL) and discussed its stance on the firm. Aflac Incorporated is a Columbus, Georgia-based insurance company with a $37.5 billion market capitalization. AFL delivered a 25.55% return since the beginning of the year, extending its 12-month returns to 52.29%. The stock closed at $56.37 per share on August 18, 2021.
Here is what Madison Funds has to say about Aflac Incorporated in its Q2 2021 investor letter:
“This quarter we are highlighting Aflac (AFL) as a relative yield example in the Financial sector. AFL is a leading provider of life and supplemental medical insurance in Japan and the U.S. AFL products offer financial protection against loss of income for policy holders based on qualifying health events. Aflac Japan generates approximately 70% of total revenues, and the company has dominant market share in Japan. In the U.S., AFL provides voluntary insurance for policy holders at businesses with products sold through payroll deduction by its large sales force which sells primarily through face-to-face interactions. We believe AFL’s dominant market position in Japan and its large U.S. sales force create a sustainable competitive advantage for the company.
Our thesis on AFL is that its sales will recover from the impact of the COVID pandemic, and it will return significant amount of capital to shareholders. Sales were negatively impacted in both Japan and the U.S. but appear to be in early stages of recovering. We believe sales will improve further as economies open and new products are introduced in Japan. In the U.S., agents will be able to return to face-to-face interactions as people get vaccinated, something that was restricted last year.
In terms of capital returns, AFL committed to returning $8-9 billion between 2020-2022, which is expected to be 75% of operating earnings. The company returns capital via share buybacks and dividend increases. AFL is a Dividend Aristocrat that has increased its dividend 39 years in a row including 10% annually over the last five years; it also recently announced an 18% dividend increase. Other favorable attributes include an A- rated balance sheet by Standard and Poor’s and an attractive valuation with a relative yield near the high end of its historical range.
We believe its valuation is cheap with its forward expected Price/Earnings (P/E) ratio just 9x and a relative P/E of 0.4x versus the S&P 500 despite an industry leading return on equity. At the time of purchase, AFL had a dividend yield of 2.5% and its relative dividend yield vs. the S&P 500 was 1.8x, as shown. Some risks to the thesis include a prolonged economic downturn, loss of market share due to unsuccessful new product roll outs and potential losses in its investment portfolio.”
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Based on our calculations, Aflac Incorporated (NYSE: AFL) was not able to clinch a spot in our list of the 30 Most Popular Stocks Among Hedge Funds. AFL was in 33 hedge fund portfolios at the end of the 1st half of 2021, compared to 36 funds in the previous quarter. Aflac Incorporated (NYSE: AFL) delivered a 2.17% return in the past 3 months.
Hedge funds’ reputation as shrewd investors has been tarnished in the last decade as their hedged returns couldn’t keep up with the unhedged returns of the market indices. Our research has shown that hedge funds’ small-cap stock picks managed to beat the market by double digits annually between 1999 and 2016, but the margin of outperformance has been declining in recent years. Nevertheless, we were still able to identify in advance a select group of hedge fund holdings that outperformed the S&P 500 ETFs by 115 percentage points since March 2017 (see the details here). We were also able to identify in advance a select group of hedge fund holdings that underperformed the market by 10 percentage points annually between 2006 and 2017. Interestingly the margin of underperformance of these stocks has been increasing in recent years. Investors who are long the market and short these stocks would have returned more than 27% annually between 2015 and 2017. We have been tracking and sharing the list of these stocks since February 2017 in our quarterly newsletter.