Top Ten Yield Strategy

[maat55]

I read about this strategy in one of my books. It's an investment strategy that uses the top ten DJIA stocks based on dividend yield and you buy into all ten and sell after one year to repeat the process.

Between 1973 to 1993 this strategy yielded 16.58% when the DJIA yielded 11.04%. The book says that there are firms that offer unit trusts(Simular to an mutual fund) that employ this strategy, which reduces the cost of implementing this strategy.

Have you heard of this strategy and or do you know of firm that offers it?

[jIM_Ohio]

google Dogs of the Dow

There are etfs and mutual funds which use this strategy.

I have "heard" that this was a 1970s to 1990s trend which has now been obsolete because it is so popular.

IMO I think there is merit to doing this if you are close to retirement and need a dividend income stream and have new money to add.

Meaning year 1 buy 10 stocks which are highest yielding in Dow
Year 2 sell nothing, buy 10 highest yielding stocks in down
Year 3 sell nothing, buy 10 highest yielding...

meaning by year 3 you might have same stock overweighted (3X the other) if a company like GE, PG or MO are paying a good dividend.

[maat55]

[QUOTE]

Meaning year 1 buy 10 stocks which are highest yielding in Dow
Year 2 sell nothing, buy 10 highest yielding stocks in down
Year 3 sell nothing, buy 10 highest yielding...

Is this a different strategy opposed to selling the original ten? I wonder if there is a record of this for the last ten years.

[Broken Arrow]

Yep, it's definitely Dogs of the Dow, although I think what Jim is describing is a bit different from the original Dog (which involves five stocks I think, and selling and re-buying every year to maintain maximum dividend).

In fact, there are several variations to the original formula, but my concern is that the formula itself may be based on what could be flawed logic. The latest version of Ben Graham's book tears Dogs a new one (but perhaps that's also to be expected from a book that pioneered modern fundamentalism).

Motley Fool also have a variation called the "Fools Four" or something like that. Too lazy to look it up right now, but basically, it's suppose to be an enhanced version of Dogs. Unfortunately, the formula tanked badly, and they've lost a lot of credibility because of it....

In fact, Dogs haven't been doing well in recent years. Because dividend is a separate policy set by the company, it is subject to manipulation and does not always reflect the overall health of the company. But more importantly, Dogs can fail because companies who offer the highest dividends are also typically the ones most likely to cut dividends early.

Some will argue that there are indeed strong companies with a solid history of reliable dividends, and I would agree. However, their rates aren't always the highest (they don't need to) and anyway, Dogs isn't based on company fundamentals. Their over-riding criteria is the % yield. Hence, Dog's greatest strength as well as its greatest weakness.

In the end, while I do think a dividend strategy is a viable one, I think it takes more than just Dogs to make it work.

[maat55]

Crap, I thought I was on to something good. Thanks guys for bursting my bubble.

[Broken Arrow]

Sorry dude! But hey, for all we know, I could be wrong! By all means, feel free to draw your own conclusions.

[jIM_Ohio]

I don't fully agree with BA's first post.

Dogs of the Dow is 10 stocks, purchases once per year, of the 10 highest yielding stocks.

Mini dogs is doing same thing with top 5 yielding stocks.

Strategy is simple- buy the highest yielding stocks in the dow. Logic is that the dow is generally large stable companies, so highest yielders are the worst 10 of the biggest 30. Buy/sell each year all 10- the highest yield means buying low. Selling at end of year locks in the gains.

Between the dividends and the capital gains, the return posted is clearly before taxes. My modification was based on saving in taxes and building a yield portfolio.

One thing selling does is lock in gains or capture losses.

I have found some mutual funds which do same thing with S&P 500 and am considering them- their returns and yield look impressive.

[Broken Arrow]

Hmm, I've been debating whether or not to say something about this, because I know you've got more important things to worry about right now.

Still, let me reiterate that simply relying on % yield is risky because the approach doesn't contain any fundamental analysis of the stocks you are picking. Consequently, you could be picking companies that have further weakness ahead of them, and are also likely to cut dividends early in order to shift those funds towards recovery.

As for historical performance, let's look at the table for Dogs of the Dow's 2007 performance. The bottom of this page shows the DJIA itself gained 6.4% while Dogs' cumulative return for that year is -1.38%. Of course, Dogs are also dividend payers, and the total yield is roughly 3.6%, giving a performance total of 2.22% for that year.

However, it's also important to note here that what is NOT being accounted for is the likely dividend that an equivalent Dow fund may have as well. So, the gap could and should be even bigger than that.

Granted, it may seem unfair for us to only look at 2007, but the point is, Dogs are also capable of underperforming. And the reason for that is as simple as the strategy itself: Dogs can't tell a good stock from a bad one.

[jIM_Ohio]

Hmm, I've been debating whether or not to say something about this, because I know you've got more important things to worry about right now.

Still, let me reiterate that simply relying on % yield is risky because the approach doesn't contain any fundamental analysis of the stocks you are picking. Consequently, you could be picking companies that have further weakness ahead of them, and are also likely to cut dividends early in order to shift those funds towards recovery.

As for historical performance, let's look at the table for Dogs of the Dow's 2007 performance. The bottom of this page shows the DJIA itself gained 6.4% while Dogs' cumulative return for that year is -1.38%. Of course, Dogs are also dividend payers, and the total yield is roughly 3.6%, giving a performance total of 2.22% for that year.

However, it's also important to note here that what is NOT being accounted for is the likely dividend that an equivalent Dow fund may have as well. So, the gap could and should be even bigger than that.

Granted, it may seem unfair for us to only look at 2007, but the point is, Dogs are also capable of underperforming. And the reason for that is as simple as the strategy itself: Dogs can't tell a good stock from a bad one.

Picking from wilshire 5000 stocks based on yield is bad- what you stated above is true for this pool of stocks- high yield will be 11-25% and find stocks which are beaten down and probably will be cutting their dividend soon.
Picking from S&P 500 stocks based on yield is somewhat better- but there will still be stocks in the S&P 500 which are beaten down- at one point Xerox had an 8% dividend when the stock price sunk and before the dividend was annouced to be cut (eliminated). Dana was another (12% yield on that one).
Picking from Dow 30 stocks based on yield is OK- these are large companies with market caps which are just obscene. The whole point of the Dogs strategy is to BUY LOW on these mega cap stocks. The dividend payout (per share) of the stocks does not change- so high yield means the stock price DROPPED. The dividend does not change for the largest of the large companies- or if it does change it is increased. PG will not drop it's dividend unless it is going bankrupt, and it would be dropped from the dow well before bankruptcy would take effect.

Like I said the strategy back tested 1970-2000 did QUITE well and the whole approach to this strategy has taken the return away (the more publicity it got, the more people did it, so the less "difference" from the market return the strategy generates).

There are funds now which do S&P 500 dogs type things and they are doing better than many. I am actually watching them to see if I want to switch retirement funds for my core investing (my current dividend fund has a better 30 year history, but the funds I am thinking of are newer (5 year histories) so I need to think before changing what is driving my retirement.

[meaghanchan]

A lot of these strategies (Dogs of the Dow, the Motley Fool one, the 'Nifty Fifty' in the eighties [IIRC], there are others) are just based on backtesting. Anyone can tell what worked in the past- the trick is to find out what will work in the future. Most of these strategies worked great until they were published, and not so well after. Why? Not, in most cases because they got too popular, but just because they didn't really work for any reason in the first place.

It's not dissimilar to if I decided I wanted to play the lottery, and I decided to look at all the previous winning numbers and choose the one that won the most. I could probably find one or two that had a higher probability of winning in the past, but going forward, they don't have a higher probability of winning than any other number.

Yes, the 1970- present numbers look good- but look at them since the Dogs of the Dow theory was published. If the strategy had predictive value, the outperformance would have continued. Now, I'll admit I haven't looked at the exact numbers lately, but unless something dramatically has changed recently, it hasn't.

[Broken Arrow]

Well, see, I don't know about the point of Dogs being based on buying low either.... I thought it was based on the highest dividend yields in the Dow. I think this is fairly obvious seeing how the stocks are picked each year.

Also, if the stocks are bought and sold annually, there is a good possibility that there may not be enough time for a weakened company to recover. So, even if one is buying low, it's quite possible to end up selling lower.

And in any case, valuations are most often made through PE ratios and its variants, not through dividend, which again, is not an accurate measure of the company's overall health. If anything, it actually makes companies weaker because the money isn't being redirected towards recovery and growth.

True that sticking with Dow stocks will minimize the likelihood of bankruptcy, but the thing is, you don't need to risk bankruptcy for your portfolio to under-perform. That is the issue at hand.

I am also aware that they have been back-tested with great success. However, as the old saw goes, past performance is no guarantee of future performance. Especially with a strategy that contains little to no fundamentals or even technicals. To me, that's pretty dangerous. I wouldn't bet my retirement on something that ultimately doesn't make any sense other than, "Well, it's worked in the past before!"

Again, while there is such a thing as a good dividend strategy, I just don't think Dogs is one of them.

[jIM_Ohio]

Well, see, I don't know about the point of Dogs being based on buying low either.... I thought it was based on the highest dividend yields in the Dow. I think this is fairly obvious seeing how the stocks are picked each year.

Also, if the stocks are bought and sold annually, there is a good possibility that there may not be enough time for a weakened company to recover. So, even if one is buying low, it's quite possible to end up selling lower.

And in any case, valuations are most often made through PE ratios and its variants, not through dividend, which again, is not an accurate measure of the company's overall health. If anything, it actually makes companies weaker because the money isn't being redirected towards recovery and growth.

You are missing the great simplicity of the dow strategy.

Yield is the low price metric. Why you ask?

take a given year, and think of the 30 stocks in the dow a few will have a bad year financially. They generally do not get removed from the dow (but must confess the last time I looked at dow was about 5 years ago- but I know PG, GE and probably GM are still in it). So the companies having a bad year get their share price beaten down. Thier payout stays fixed (again companies like these tend to not reduce dividends unless they under the strain GM is under right now).

So the lower price drives up the yield (payout/price with price dropping). Choosing based on the yield finds the lower priced stocks of the 30 (best value relative to dividend offered of the 30 dow stocks).

You are correct that some companies need more than a year to turn around. More than likely the stock won't go much lower, it just won't go significantly higher. Meaning when bad news hits, stock tanks. Unless more bad news hits, stock isn't going to drop another 20% a second time. Might rebound 1-2%, maybe 5% from the original drop.

This process is used in part by many fund managers. PRFDX/ Brian Rogers does this. I always look forward to the year end prospectus when he explains which companies dropped enough for him to create a new position or add to an existing position. In 2000 Microsoft and Oracle were added because their stock price dropped that 20-30% which suggests a rebound is likely. Look at funds returns in 2002 relative to market and see how well that worked.

[Broken Arrow]

Yes, I agree that yield can occasionally be used to find "low price", but my original point is that that is not the goal of Dogs.

Even if we look at yield strictly in terms of finding "low price", it does have certain limitations. The result can be skewed once a company increases or decreases dividend, and it would not work at all with something that offers no dividend.

No offense sir, but I think it's pretty bold as to proclaim it as "the low price metric". To me, it's more like trying to commute with an unicycle. It can work, but there are better ways to go at it....

[jIM_Ohio]

Yes, I agree that yield can occasionally be used to find "low price", but my original point is that that is not the goal of Dogs.

Even if we look at yield strictly in terms of finding "low price", it does have certain limitations. The result can be skewed once a company increases or decreases dividend, and it would not work at all with something that offers no dividend.

No offense sir, but I think it's pretty bold as to proclaim it as "the low price metric". To me, it's more like trying to commute with an unicycle. It can work, but there are better ways to go at it....

Dogs of the Dow - High dividend yield stocks + Broker Reviews - Current Doggishness
The Dogs of the Dow - Wikipedia, the free encyclopedia

This should mean that companies with a high yield, with high dividend relative to price, are near the bottom of their business cycle and are likely to see their stock price increase faster than low yield companies

The goal of the dogs strategy- find the lower priced stocks in the index relative to the dividend payout an investor will receive.

If you take the 30 stocks, I hope we can agree they are mega cap companies and overall, as an average, those 30 stocks can be a proxy for the market. Granted S&P 500 is currently the primary proxy which accounts for about 75% of the overall market, but the Dow is probably 30-40% of the market concentrated into 30 stocks- do you agree the Dow gives a rough approximation of the market?

The turnover in the Dow is much less than the turnover in the S&P 500. Much of the turnover is from mergers/buyouts and not from companies being dropped. Note I found one article about stocks being dropped in 2004. Not sure if any have been dropped since.

Dow Jones Industrial Average - Wikipedia, the free encyclopedia
To buff up the index, Dow drops 3 laggards - International Herald Tribune

Can we agree the Dow turnover of 3/30 is low (10% of index every 3-4 years is low IMO)? Does S&P put 50 new companies into index every 3-4 years? I think it's close, but not sure.

Meaning a person can count on the stocks in the index being there over an extended 5-10 year period to execute the picking strategy on the same group of stocks. If stocks are being added and removed more frequently from the pick list, I do agree you will find some really high yields (7-20%) which might be a sign of distress.

This is where the Dogs strategy comes in-
if you agree the 30 stocks being chosen among will be constant and be big companies, these types of companies generally do not reduce their dividend- look at GE and PG for example- when was the last time they REDUCED their dividend? Companies which keep dividend steady or increase dividend is a common strategy many fund managers use to select stocks. This is a sign of sound balance sheets and management practices within the company. Especially if consistent in this process over a 10 or 20 year period.

So you have a dividend which is constant or increasing, and a price which fluctuates 260 times per year. The idea of the strategy is to use the yield to find which stock is priced cheaper relative to the dividend. The person executing the strategy may or may not see the share price increase much. But they will receive the dividend as cash in their pocket.

This is the goal of the dogs strategy- find the lower priced stocks in the index relative to the dividend payout an investor will receive.

[Broken Arrow]

Yes, I agree with your premise, and while I'm at it, I promise I'm not trying to be argumentative. I don't win anything for engaging in this debate. And like I said, I could be wrong, but while I do agree with the basic premise, I just can not agree with the conclusion that Dogs is a good dividend strategy. And I don't think I'm being unreasonable in my conclusions....

if you agree the 30 stocks being chosen among will be constant and be big companies, these types of companies generally do not reduce their dividend- look at GE and PG for example- when was the last time they REDUCED their dividend? Companies which keep dividend steady or increase dividend is a common strategy many fund managers use to select stocks. This is a sign of sound balance sheets and management practices within the company. Especially if consistent in this process over a 10 or 20 year period.

Since it's been brought up, yes, I fully agree that GE and PG are good companies due to its sound balance sheets. However, what we're talking about here is basic fundamental analysis, and Dogs doesn't look at that.

In fact, going back to Dog's own website, GE is currently in the 9th place, whereas PG doesn't even place at all. In other words, a disciple of Dogs will not hold PG this year, and might not hold GE in the near future. Despite the fact that we agree both are good companies and is extremely unlikely to cut dividends.

Contrast that with the top of the list, Citigroup, which so far has lost about 37% since the beginning of the year, and has already slashed dividend from $0.54 per share to $0.32. Sure, the stock could rebound, but it could also fall further, as it already has earlier in the year. And yet, both Dog and Small Dog would be holding this stock as their #1 pick, despite the fact that it has already underperformed both on the return front as well as the dividend front.

I hope you can see why I don't think much of Dog's overly-simplistic dividend strategy. Even if it picks from a pool of fairly safe Dow stocks, I don't think it automatically translates to a strategy that can be expected to over-perform the market.