Why Dividends? Market Commentary January 2018

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1 Why Dividends? Market Commentary January 2018 OVER THE YEARS, INVESTOR APPETITE FOR DIVIDENDS has waxed and waned. Historically, research in dividend investing has measured everything from performance of equities during periods of heightened dividend yields to improvements in corporate governance due to aligned interests between management and shareholders. We believe dividend-paying stocks may be suitable in diversified portfolios for many reasons.* First, dividend-paying companies historically have outperformed non-dividend paying companies with less risk. Second, dividends are meaningful to total return. Finally, a well-constructed portfolio of dividend-paying companies can help investors fund their long-term liabilities, such as retirement cash-flows or philanthropic endeavors. The purpose of this paper is to explore the empirical evidence regarding the potential to provide solid risk-adjusted returns, build wealth and increase portfolio cash-flow via dividend investing. 2018: A Year of Transition 2017 marked the ninth consecutive year of positive returns for the S&P 500. When looking historically, a performance streak of this duration has only occurred one other time ( ) since the inception of the S&P 500. Monetary stimulus from quantitative easing provided a backdrop of declining interest rates and falling volatility. As this process endured investor preferences also shifted towards companies with lower earnings quality, higher yields, or select growth companies as both yield and growth became viewed as increasingly scarce. As a result, these same segments ultimately became the largest contributors to higher equity valuations in recent years. However, we expect a transition from multiple expansion to earnings growth and a rising likelihood of increased equity market volatility. As these transitions occur investor preference could also shift from the non-dividend and high yielding company segments towards dividend growth companies. HIGH-QUALITY companies tend to exhibit revenue growth, stable earnings and capital discipline a good indicator of dividend sustainability. High-quality companies with strong balance sheets, revenue growth potential, consistent earnings generation and high return on equity (ROE) - the fundamentals for sustainable dividend growth over the long term - would become increasingly more attractive during periods of increased market volatility (which tend to be coupled with market declines). As seen in Exhibit 1 on the next page, companies with high ROE have performed favorably during previous market declines. * Diversification does not insure against loss in a declining market. NOT FDIC INSURED NO BANK GUARANTEE MAY LOSE VALUE

2 Exhibit 1: Higher Quality Companies Outperformed in Volatile Periods Relative Performance During Drawdown Periods of 7% or Greater ROE Top Quintile (High Quality) ROE Bottom Quintile (Low Quality) Outperformed S&P 500 Index Underperformed S&P 500 Index /31/07 11/20/ /6/09 3/9/ /19/10 2/8/ /23/10 7/2/ /29/11 10/3/ /2/12 6/1/ /14/12 11/15/ /18/14 10/15/ /20/15 8/25/ /31/15 2/11/16 Data sources: Morningstar Direct and FactSet as of 12/31/17. Past performance is no guarantee of future results. Chart shows relative performance of the highest quintile (1) and lowest quintile (5) by return on equity versus the S&P 500 Index during drawdown periods of 7% or greater over the last 10 years. Indexes are unmanaged and unavailable for direct investment. A long-term focus on well-run companies has historically provided COMPETITIVE RETURNS during periods of market declines and volatility. Dividend-Growth Stocks have Outperformed with Less Risk Ultimately, the goal for every investor is to maximize return while minimizing risk. As illustrated in Exhibit 2, research has shown that over the long term dividend growers and initiators have generated higher returns with lower standard deviation, a measure of risk, than companies that maintained their dividend, paid no dividend and ones that reduced or eliminated their dividend. Exhibit 2: Risk vs. Return (January 31, 1972 December 31, 2017) Average Annualized Return (%) Higher Return Lower Return 12% 8% 4% 0% -4% 15% 20% 25% 30% Lower Risk Dividend Growers and Initiators Dividend Payers w/ No Change Non-Dividend Paying Stocks Dividend Cutters or Eliminators Annualized Standard Deviation Higher Risk DIVIDEND-PAYING COMPANIES generate periodic cash flow, helping to act as a buffer to market volatility resulting in an attractive risk/ return trade-off. Data source: Ned Davis Research, Inc. from 1/31/72-12/31/17. Further distribution prohibited without prior permission. Copyright 2018 Ned Davis Research, Inc. All rights reserved. Past performance is no guarantee of future results. For a description of how each stock is grouped by dividend policy, see Endnotes for Exhibit 2 description on last page. 2

3 A Total Return Perspective Market participants believe that earnings growth has been the driver of long-term returns. However, decade by decade, with the exception of the 1990s, a period marked by excessive valuations, dividends have been a significant contributor to total return for equity investors. 1 In fact, between 1930 to 2017, 42% of the annual total return of the S&P 500 s annualized return was actually derived from the payment and reinvestment of dividends, while capital appreciation/depreciation has contributed the rest, as shown in Exhibit 3. Exhibit 3: Dividend Income as Percentage of Total Return (January 1, 1930 December 31, 2017) Dividend Income Return Total Return S&P 500 Index Annualized Total Return 20% 15% 10% 5% 0% -5% 42% of total return /1/ /31/2017 N/A 67% of total return 1930s** 1940s 1/1/ /31/1939 1/1/ /31/ % of total return 1950s 1/1/ /31/ % of total return 1960s 1/1/ /31/ % of total return 1970s 1/1/ /31/ % of total return 1980s 1/1/ /31/ % of total return N/A 1990s 2000s** 2010s* 1/1/ /31/1999 1/1/ /31/ % of total return 1/1/ /31/2017 THE PAYMENT AND REINVESTMENT of dividends have historically contributed 42% to total return. Data source: Ned Davis Research, Inc. as of 12/31/17. Further distribution prohibited without prior permission. Copyright 2018 Ned Davis Research, Inc. All rights reserved. Past performance is no guarantee of future results. For a description of the S&P 500 Index and methodology, see Endnotes for Exhibit 3 on last page. * Represents a partial period and not a full decade. ** The analysis provided by Ned Davis indicates that the data is not applicable because the Dividend Income Return data for the 1930s and 2000s is disproportionately high versus the other decades due to the low or negative Total Returns during these periods. The information provided in this analysis may not represent the full value of reinvested dividends. Dividend Growers have Provided Excess Returns During Market Volatility The income produced by dividends can be an essential complement to a strong capital appreciation strategy, as it may limit volatility and be a meaningful contributor to total return over time. Market volatility can cause swings in the price return of a portfolio, but the performance of companies with strong balance sheets and the financial strength to support dividend growth can help smooth out this volatility. As illustrated in Exhibit 4 on the next page, companies with persistent dividend growth have provided excess returns during periods of market volatility. 1 Dividends are not guaranteed and will fluctuate. 3

4 Exhibit 4: Dividend Growers vs. Non-Payers Performance During Months when VIX Increased (January 1, 2008 December 31, 2017) VIX Monthly Increase Average Out/Under Performance of Dividend Growers >40% 2.0% 20-40% 0.2% 10-20% 1.2% <10% 0.5% Average (Across All Months When VIX Increased) 0.9% COMPANIES WITH STRONG BALANCE SHEETS and the financial strength for dividend growth can help smooth out market volatility. Data sources: Ned Davis Research, Inc. from 1/1/08-12/31/17. Further distribution prohibited without prior permission. Copyright 2018 Ned Davis Research, Inc. All rights reserved. Past performance is no guarantee of future results. This chart illustrates the average historical performance of S&P 500 stocks, grouped as shown according to their dividend policies. Periods greater than one year have been annualized. The returns do not reflect the deduction of any fees, expenses or taxes. Returns for stocks that paid dividends assume reinvestment of all income. Performance returns may have been negative during this time period. Investors cannot invest in an index. The periods shown do not represent the full history of the S&P 500 Index; it is the history maintained by the source. Dividends Can be an Important Check on Corporate Governance and Financial Health Management teams should allocate capital based on a belief that the payoff will provide a positive net present value. Conversely, examples of inefficient allocation of capital can include: acquisitions that are not accretive to a company s earnings; investing in capital projects that have a negative return on investment; or buying back shares when the company s stock price is at an unattractive valuation. But allocating capital to paying and growing dividends can show that management is committed to its shareholders. Companies are currently sitting on a record pile of cash and liquid assets, but they are increasingly putting that cash back into the hands of investors in the form of dividends, as illustrated in Exhibit 5. Exhibit 5: Corporate Cash Levels and Dividend Payouts Corporate Cash Levels ($Millions) $ Dividends Paid ($Millions) $120 $ $100 $ $90000 $60000 $80 $60 HIGH CORPORATE CASH levels are increasingly being utilized in the form of dividend payments. $ $ Data sources: FactSet and S&P Dow Jones Indices from 9/30/07-9/30/17. Most recent quarter-end data available based on individual company earnings releases. Past performance is no guarantee of future results. Corporate cash levels and dividends paid are represented by nonfinancial companies in the S&P 500 Index. Special dividends were issued by Time Warner in March It is not possible to invest in an index. 4

5 A Combination of Dividend Yield and Growth may Provide the Best Returns Even though dividend-paying stocks as a whole have historically outperformed the market since January 31, 1972 (as illustrated in Exhibit 2), not all dividend stocks are created equal. Dividend-paying stocks with a combination of yield and consistent dividend growth are often an indicator of quality because they can afford to pay their dividend, while also having enough cash left over for capital reinvestment. A firm s dividend payout ratio is one key indicator of dividend policy flexibility companies earning just enough to pay dividends or paying most of their earnings as dividends are vulnerable to competitive pressure as they may not have enough cash flow to support their operations. In addition, a company with a high dividend yield is paying a significant amount of dividends to its shareholders and this may mean it risks low growth in the future a threat to both share price appreciation and dividend growth. As illustrated in Exhibit 6, stocks with the highest payout ratio (Quintile 5) were not the best performers over time. Among those companies that paid a dividend over the past 20 years, stocks with medium and medium-high payout ratios (Quintiles 3 and 4) have outperformed. Exhibit 6: The Highest Payout Ratios are Not the Best Performers Returns of Dividend-Paying Stocks Grouped by Payout Ratio Relative to the S&P 500 Index (12/31/97 12/31/17) 100 Lowest Payout Ratio Quintile 1 Highest Payout Ratio Quintile 2 Quintile 3 Quintile 4 Quintile FIRMS THAT PAY HIGHER dividends but use a smaller percentage of earnings to do so may have the capacity to continue to raise their dividends over time Data source: FactSet Fundamentals via FactSet Alpha Testing from 12/31/97 12/31/17. Past performance is no guarantee of future results. The performance shown is for illustrative purposes only. The chart illustrates the historical performance of S&P 500 dividend-paying stocks relative to the Index. Quintiles are grouped by dividend payout ratio with Quintile 1 representing the lowest payout ratio and Quintile 5 representing the highest payout ratio. The returns do not reflect the deduction of any fees, expenses or taxes, and assume reinvestment of all income. Investors cannot invest in an index. Why Now? Investing in companies that pay dividends can help temper volatility and augment total return. Dividend-paying companies may offer a more risk conscious way to participate in equity markets as historically these companies have remained competitive, even when external influences and various market cycles weigh on companies. The Fed has 5

6 intentionally kept the Federal Funds rate at all-time lows for an extended period of time, but fiscal policy changes will require less reliance on near zero interest rates level. Exhibit 7 illustrates that dividend payers, particularly those that have grown or initiated a dividend, have outperformed after the Fed increased rates. Exhibit 7: Performance After the Federal Reserve Increased Rates (Subsets of S&P 500 Index, All Rate Hikes Since 1972) 140 Dividend Growers Payers with No Change in Dividends Non-Dividend Payers Dividend Cutters Index Returns COMPANIES THAT GROW their dividend have historically performed well after periods of rising rates Elapsed Months Data source: Ned Davis Research. Further distribution prohibited without prior permission. Copyright 2018 Ned Davis Research, Inc. All rights reserved. Past performance is no guarantee of future results. Data shown is based on the average performance after all rate hikes since 1972 which occurred on the following dates: 1/15/73, 8/31/80, 4/9/84, 9/4/87, 2/4/94, 3/25/97, 6/30/99, 6/30/04. For a description of how each stock is grouped by dividend policy, see Endnotes for Exhibit 7 description on last page. Valuations of Dividend Growers Remain Attractive Dividend growers have historically traded in-line with the S&P 500, but as of December 31, 2017, they traded below their historical average at a discount to the S&P 500. Exhibit 8: High Dividend Growers vs. S&P 500 (2/28/83 12/31/17) 40% Premium/Discount Average Forward Price-to-Earnings Relative to the S&P 500 Index Premium Discount 20% 0% -20% 7% discount RELATIVE TO THE S&P 500, high dividend growers are currently trading at a discount to their historical average. -40% Data source: Ned Davis Research, Inc. from 2/28/83-12/31/17. Further distribution prohibited without prior permission. Copyright 2018 Ned Davis Research, Inc. All rights reserved. Past performance is no guarantee of future results. The periods shown do not represent the full history of the S&P 500 Index, but the history maintained by the source. Dividend growers include those companies that comprise the top 20% of dividend growth in the S&P 500 Index. It is not possible to invest in an index. 6

7 With dividends paid hitting all-time highs, we believe companies are well positioned to continue to pay and even increase their dividends over the long term. Companies are maintaining very high cash balances, with cash on balance sheets reaching $1.8 trillion as of September 30, 2017, their highest levels in two decades. 2 Additionally, valuations remain attractive for dividend growth, with dividend growers trading at a 7% discount relative to the S&P 500 as of December 31, Ultimately, we believe these characteristics create a compelling reason why companies with strong balance sheets and the fundamental strength for future dividend growth should be part of a diversified portfolio. 2 Data Source: FactSet as of 9/30/17. Most recent quarter-end data available based on individual company earnings releases. 3 Data source: Ned Davis Research, Inc. from 2/28/83-12/31/17. Further distribution prohibited without prior permission. Copyright 2018 Ned Davis Research, Inc. All rights reserved. Dividend growers include those companies that comprise the top 20% of dividend growth in the S&P 500 Index. 7

8 For more information, please contact your financial advisor and visit nuveen.com or contact Santa Barbara by visiting sbasset.com. ENDNOTES Exhibit 2 The performance shown is for illustrative purposes only. This chart illustrates the average annualized historical performance of S&P 500 stocks, grouped as shown according to their dividend policies. Each stock s dividend policy is determined on a rolling 12-month basis. For example, a stock is classified as dividend paying if it paid a cash dividend at any time during the previous 12 months. Dividend growers and initiators include stocks that raised their existing dividend or initiated a new dividend during the preceding 12 months. Dividend cutters or eliminators include stocks that lowered their existing dividend or stopped paying regular dividends during the preceding 12 months. A stock is reclassified only if its dividend payments change. The performance of each group is based on the equal-weighted geometric average of dividend-paying and non-dividend paying historical S&P 500 stocks, rebalanced monthly. The performance shown represents the risk-return characteristics of each of the categories. The returns do not reflect the deduction of any fees, expenses or taxes, and assume reinvestment of all income. Investors cannot invest in an index. Performance returns may have been negative during this time period. The periods shown do not represent the full history of the S&P 500 Index; it is the history maintained by the data source. Investors cannot invest in an index. Exhibit 3 Periods greater than one year are annualized. The S&P 500 Index is a capitalizationweighted index of 500 stocks designed to measure the performance of the broad domestic stock market. The S&P 500 Index in its present form began on March 4, Prior to the 500 Composite, from S&P used as its first broad market indicator, a composite index of 233 stocks. In 1926, to disseminate market indicator information more frequently, S&P created a more manageable subset of stocks that became known as the S&P 90 Stock Composite Index. Prices for the 500 Composite were linked to the 90 Stock Composite to provide daily records back to 1928 and monthly data back to December 31, Return performance is based on equal-weighted geometric average, computed monthly. Dividend income return is based on the return percentage of all dividend-paying companies in the S&P 500. The returns do not reflect the deduction of any fees, expenses or taxes, and assume reinvestment of all income. Investors cannot invest in an index. Exhibit 7 The Dividend Growers and Initiators category is a subset of U.S. Stocks (S&P 500 Index) as defined by Ned Davis Research, Inc. Each stock s dividend policy is determined on a rolling 12-month basis. For example, a stock is classified as dividend-paying if it paid a cash dividend at any time during the previous 12 months. Dividend growers and initiators include stocks that raised their existing dividend or initiated a new dividend during the preceding 12 months. Dividend cutters or eliminators include stocks that lowered their existing dividend or stopped paying regular dividends during the preceding 12 months. A stock is reclassified only if its dividend policies change. The returns do not reflect the deduction of any fees, expenses or taxes. Returns for stocks that paid dividends assume reinvestment of all income. Investors cannot invest in an index. GLOSSARY Beta: a measure of the variability of the change in the share price for a fund in relation to a change in the value of the fund s market benchmark. Securities with betas higher than 1.0 have been, and are expected to be, more volatile than the benchmark; securities with betas lower than 1.0 have been, and are expected to be, less volatile than the benchmark. Dividend Yield: for a company s stock, the ratio of the dividends paid out by the company each year per share to the share s current market price. Drawdown: is the peak to trough decline during a specific record period of an investment. Payout Ratio: the percentage of earnings paid to shareholders in dividends. Return on Equity (ROE): the amount of net income returned as a percentage of shareholders equity. Return on equity measures a corporation s profitability by revealing how much profit a company generates with the money shareholders have invested. Standard Deviation: a measure of the degree to which returns varied from the average return over a certain period. It is a common measure of volatility and risk. S&P 500 Index: an unmanaged index generally considered representative of the U.S. stock market. RISKS AND OTHER IMPORTANT CONSIDERATIONS This material is not intended to be a recommendation or investment advice, does not constitute a solicitation to buy or sell securities, and is not provided in a fiduciary capacity. The information provided does not take into account the specific objectives or circumstances of any particular investor, or suggest any specific course of action. Investment decisions should be made based on an investor's objectives and circumstances and in consultation with his or her advisors. This commentary should not be relied upon as investment advice, recommendations, offers or solicitation of any particular security, asset class, fund, strategy, or investment product. Investing entails risk, including the possible loss of principal. There can be no assurance that any investment or asset class will provide positive performance over any period of time. Dividend yield is one component of performance and should not be the only consideration for investment. Dividends are not guaranteed and will fluctuate. Equity investments such as large-cap stocks are subject to market Santa Barbara Asset Management, LLC is a registered investment adviser and an affiliate of Nuveen, LLC. risk or the risk of decline in response to adverse company news, industry developments, or a general economic decline. Past performance does not guarantee future results. The statements contained herein reflect the opinions of Santa Barbara Asset Management, LLC ( Santa Barbara ) as of the date written. Certain statements are forward looking and/or based on current expectations, projections, and information currently available to Santa Barbara. Such statements may or may not be accurate over the long-term. While we believe we have a reasonable basis for our comments and we have confidence in our opinions, actual results may differ from those we anticipate. We cannot assure future results and disclaim any obligation to update or alter any forward-looking statements, whether as a result of new information, future events, or otherwise. Statistical data was taken from sources which we deem to be reliable, but their accuracy cannot be guaranteed. GRE-DIVINV-0118P INV-Y-01/19 Nuveen 333 West Wacker Drive Chicago, IL nuveen.com