FOOLISH FOUR PORTFOLIO

Dow Unit Investment Trust
by Chris Rugaber
(TMF RFK@aol.com)

Alexandria, VA (November 12, 1998) -- As the Dogs of the Dow (High Yield) approach to Dow investing has grown in popularity, many brokerage houses have begun offering Unit Investment Trusts (UITs) that consist of the 5 or 10 highest yielding Dow stocks. What are these UITs, and are they something Fools should consider investing in?

Probably the best-known example of a UIT is the American Stock Exchange's SPDR (Standard & Poor's Depository Receipts). Popularly known as Spiders (AMEX: SPY), they track the S&P 500 Index like index mutual funds do. However, Spiders are different from other mutual funds in that they hold a fixed set of equities. That is a defining feature of UITs -- the strategy is carefully spelled out and followed. Early this year, the American Stock Exchange introduced an equivalent UIT for the Dow Jones Industrial Average. Diamonds (AMEX: DIA) track the DJIA index like Spiders track the S&P 500.

Many of the Dow UITs include up-front sales and management fees and or annual expense fees that can run high as 2.75% a year. (By way of comparison, AMEX's Diamonds have no up-front fees and charge less than 0.2% in expenses.) Since most follow 5 or 10 stock strategies, their returns can be expected to be higher than Diamonds but not as high as the Foolish Four or RP4. Dow UITs usually hold their stocks for 12 or 13 months then sell them and liquidate the trust, leaving their investors with taxable capital gains even though some of the stocks might still be included in the next year's UIT.

For example, Van Kampen Investments offers the Strategic 5 Trust and the Strategic 10 Trust. Their Strategic 5 Trust is very different from the high-yield 5 trusts most brokerages sell. It takes the second-lowest through sixth-lowest priced stocks of the ten highest yielders. If you are familiar with our Dow Dividend Spreadsheet or have been reading the Motley Fool message boards for many years, you may recognize this as the Dow Dividend 2-6 strategy first published on our site in November of 1994, a permanent resident of the Dow Dividend Spreadsheet. (Van Kampen's first Strategic Five Trust began in March of 1996.)

Recently, several mutual funds have begun incorporating the Dow Dividend Approach into their strategies, as well. SEC rules regarding mutual fund diversification prevent a fund from owning as few stocks as a Dow Dividend strategy requires, so these funds include Spiders, Treasury bills, or high-yielding stocks. None of these funds have been around long enough to establish even three-year returns. Obviously, though, including securities such as T-bills would reduce the returns in most years. For more information on them, click here.

Given the expenses and fees of UITs and mutual funds, and their potential tax drawback, I see little reason for most investors to purchase them. However, if you are starting with a small amount of money, these UITs and mutual funds provide a way to invest in a Dow strategy that otherwise might not be feasible, and they offer the advantage of allowing additional periodic investments commission-free.

On the other hand, a UIT with an up-front fee of 1% and expenses of 1.75% a year will cost $27.50 for each $1,000 invested (the minimum investment for most UITs is $1000). With an online discount broker changing $8.00 per trade, the maximum commissions for a 4 stock strategy would be around $64 even if all stocks turn over each year (usually 2 hang around for another turn). Certainly if you have more than $2,500 to invest, there seems to be little reason to stomach the expenses that UITs and mutual funds charge, especially considering the ease with which you can do it yourself.

On a side note, two weeks ago I began looking into the criticism of whether the Dow Approaches are "too popular," which led to last week's article on institutional ownership and today's quick survey of UITs. A few final words on the "it's too popular" criticism. First, it is theoretically possible that one day, any and all low-yielding Dow stocks will be in such demand towards the end of the year that the whole system will be thrown out of whack. It may be theoretically possible, but we're not there yet. Trading volumes and share prices are clearly more affected by earnings reports and other such basics than by Dow Dividend followers. It would make just as much sense to say that it's no longer worth paying attention to quarterly earnings reports because everyone else does.

A second point is that, outside The Motley Fool, almost everyone who discusses this approach feels compelled to present a "balanced view," so the arguments against the Dogs of the Dow are always recited, but no proof is ever offered. During my research for this series of articles, almost everything I read was at least partly or wholly negative towards the Dogs of the Dow.

So fear not. The number of individual investors and UITs who will rigorously follow a consistent Dow Dividend strategy for many years in a row, whether the Foolish Four, the RP4, or the High Yield 10, will probably always be fairly small compared to the institutional investors, the day traders, the mutual fund buyers, and the Wise who claim that the Dogs of the Dow are "too popular" or "too simple." (Too easy for investors to do on their own might be their real fear.) For now, as I said last week, you may want to avoid the New Year's rush and buy your Dow stocks earlier in December; otherwise, forget about what everyone else is doing.

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Current Dow Order | 1998 Dow Returns


11/12/98 Close
Stock  Change   Last
--------------------
UK   -   3/8   42.75
IP   -   7/8   43.56
MO   ---       53.88
EK   -   1/2   77.25
                   Day   Month    Year
        FOOL-4   -0.34%   2.50%  13.68%
        DJIA     +0.07%   2.77%  11.65%
        S&P 500  -0.25%   1.77%  15.22%
        NASDAQ   -0.60%   4.50%  17.87%

    Rec'd   #  Security     In At       Now    Change

 12/31/97  206 Eastman Ko    60.56     77.25    27.55%
 12/31/97  276 Philip Mor    45.25     53.88    19.06%
 12/31/97  289 Int'l Pape    43.13     43.56     1.01%
 12/31/97  291 Union Carb    42.94     42.75    -0.44%


    Rec'd   #  Security     In At     Value    Change

 12/31/97  206 Eastman Ko 12475.88  15913.50  $3437.63
 12/31/97  276 Philip Mor 12489.00  14869.50  $2380.50
 12/31/97  289 Int'l Pape 12463.13  12589.56   $126.44
 12/31/97  291 Union Carb 12494.81  12440.25   -$54.56


               Dividends Paid YTD  $1027.34
                            TOTAL  $56840.15