As the calendar turns to 2011, it is time again for investors to start snapping up the 10 highest-yielding components of the Dow Jones Industrial Average ($INDU, news, msgs).
The strategy, known as "Dogs of the Dow," says to buy the 10 Dow components with the highest yields with hopes of getting more dividend income and seeing the past year's laggards outperform.
Outside of increased dividends, yields rise when stock prices fall and so the Dogs strategy aims to capitalize on that dynamic.
It hasn't always worked out that way; investors in the strategy would have gotten a smaller return over the past decade than they would have gotten by investing in all 30 of the Dow components over that period.
Yet the Dogs concept has a significant following that never seems to abate, due in part to its strength during certain periods. It outperformed during the bear market of 2000 to 2002, and it beat the broader market for 2010. The Dogs stocks climbed 15.5% this past year, excluding dividend income, surpassing the Dow's 11% increase.
Including dividend income, the Dogs had a total return of nearly 21% this past year, compared with a 14% total return for the entire Dow, according to Bespoke Investment Group. Last year was the first since 2006 that the total return of the Dogs has surpassed that of the Dow.
This past year's outperformance is making the strategy even more attractive at a time when dividend stocks already are in vogue thanks to continuing uncertainty over the economy and low yields in the Treasury market. The fact that the Bush-era tax cuts have been extended, keeping the dividend-tax rate lower for two more years, only adds to the allure of dividends.
"It is intuitively appealing," said Nicholas Colas, the chief market strategist at ConvergEx. "Buying dividend stocks, especially now, makes a lot of sense given where rates are" in the Treasury market, he said.
While many individuals who prefer the simplicity of buy-and-hold investing like to use the strategy, some fund managers including Frank Ingarra Jr., co-portfolio manager at Hennessy Funds, also employ it in the portfolios they run for clients. The company started the two funds based on the Dogs of the Dow in the 1990s after accurately predicting its appeal "for a type of investor that wants stock market exposure but doesn't want as much volatility," Ingarra said.
The company's Hennessy Balanced fund (HBFBX), with $12.5 million under management, invests 50% of its assets in Dogs stocks, while the other 50% is in Treasurys with a maturity of less than a year. The fund's performance was hurt by low-yielding Treasury bills, and the fund's gain of 8.2% for the past year lagged behind the broader market.
The popularity of the strategy could be a boon early this month to Johnson & Johnson (JNJ, news, msgs) and Intel (INTC, news, msgs), the two newest Dogs. The other eight on the list for the new year are repeat offenders; those stocks are unlikely to see major near-term impact from their inclusion in the list.
Meanwhile, other stocks not in the Dow could see related buying as investors and fund managers seeking different ways to profit from the concept of the Dogs strategy are increasingly applying the idea to broader baskets of stocks.
Justin Walters, co-founder of Bespoke Investment Group, said that skittish investors returning to stocks after being bitten by the 2008 bear market are likely to start with less-risky names that are providing income.
"That's why a lot of the funds are starting to provide more strategies to provide that to people," he said.
To wit: Oliver Pursche, of Gary Goldberg Financial Services, is launching a strategy this month for separately managed accounts that applies the Dogs concept to the members of the Standard & Poor's 100 and the S&P 500, with some additional criteria.
"We looked at the Dogs of the Dow as an interesting strategy, but one with many flaws," he said. "It does not put any weight on financial strength . . . or apply any fundamental analysis with regard to the sustainability of the dividend."
His company's new strategy, which it is calling its "dividend-buster program," aims to make up for those shortcomings. After screening for the 30 highest-yielding stocks in the S&P 500 and the 30 highest-yielding stocks from the S&P 100, the program gives priority to stocks with higher safety rankings from Value Line and higher financial strength ratings until 15 stocks remain.
Pursche said he expected clients to put at least $25 million into the strategy after its planned launch earlier this month.
| Company | Dividend | |
|---|---|---|
5.74% | ||
5.18% | ||
4.42% | ||
4.16% | ||
3.68% | ||
3.41% | ||
3.40% | ||
3.38% | ||
3.27% | ||
3.17% | ||
This article was reported by Donna Kardos Yesalavich for The Wall Street Journal.
