The Dogs of the Dow Are Outperforming Their Index

"Dogs of the Dow" is one of the simplest dividend strategies to beat the market. Over the coming year, I'll track the Dogs' performance and keep you abreast of news affecting these companies.

The strategy
The Dogs is an investing strategy that buys and holds equal dollar amounts of the 10 best-yielding dividend stocks of the Dow Jones Industrial Average (DJINDICES: ^DJI  ) . The strategy banks on the idea that blue-chip stocks with high yields are near the bottom of their business cycle and should do much better going forward. Investors in the strategy then would get not only large dividends but also gains in the stocks underlying those dividends.

High-yield dividends
High-yield portfolios are often dismissed as inferior to their growth counterparts for various reasons:

  • Many people fear that increasing dividend yields mean lower portfolio returns.
  • Others believe that dividend payments mean that management believes the business is done growing.

Evidence from Tweedy, Browne refutes these falsehoods. Research shows that portfolios of high-yield dividend stocks outperform lower-yielding portfolios and the market in general. In fact, a study by noted finance professor Jeremy Siegel found that over 45 years, the highest-yielding 20% of S&P 500 stocks outperformed the S&P 500 by three times! The highest-yielding stocks turned a $1,000 investment in 1957 into $462,750 by 2002, compared with $130,768 if the same money was invested in the index.

Performance
After beating the Dow by 6.8% in 2011, the Dogs of the Dow underperformed the Dow by 0.2% in 2012. Check out the Dogs' performance in 2013 so far:

Company

Initial Yield

Initial Price

YTD Performance

AT&T (NYSE: T  )

5.34%

$33.71

 9.46%

Verizon 

4.76%

$43.27

 12.3%

Intel 

4.36%

$20.62

 4.78%

Merck (NYSE: MRK  )

4.20%

$40.94

 8.73%

Pfizer 

3.83%

$25.08

 12.7%

DuPont 

3.82%

$44.98

 11.9%

Hewlett-Packard (NYSE: HPQ  )

3.72%

$14.25

 56.6%

General Electric (NYSE: GE  )

3.62%

$20.99

 12.6%

McDonald's 

3.49%

$88.21

 13.9%

Johnson & Johnson 

3.48%

$70.10

 13.9%

Dow Jones Industrial Average

 

13,104

10.7%

Dogs of the Dow

   

15.7%

Dogs Return vs. Dow (Percentage Points)

   

+5%

Source: S&P Capital IQ as of March 16.

This week, the Dow Jones Industrial Average rose 0.8%. The Dogs of the Dow rose more than the Dow, moving up 1.02%. That brings the Dogs of the Dow's outperformance up to 5 percentage points better than the Dow!

Movers and shakers
The biggest mover this past week among the Dogs of the Dow was Hewlett-Packard, which rose 6.28%. On Tuesday it was announced that the U.K. Serious Fraud Office had opened an investigation into HP's accusations of fraud against the former management of Autonomy, which HP acquired in 2011 for $10.3 billion. Last year, HP wrote down the acquisition by $8.8 billion and accused Autonomy's previous management, including founder and former-CEO Mike Lynch, of inflating Autonomy's results before the sale.

The second biggest mover was Merck, which rose 3.59%. On Tuesday, a medical advisory panel said a large trial for Merck's cholesterol-limiting drug, Vytorin, can continue. Vytorin currently accounts for $1.75 billion in annual sales, and Merck hopes those numbers will increase if the study is successful. The nine-year study is scheduled to end next September and is trying to show that Vytorin is significantly more effective than Merck's Zocor, which is now available as a generic.

Upcoming
The Federal Reserve Open Market Committee meets early this week and will have a statement announcing its intentions moving forward on Wednesday at 2 p.m. ET. The Federal Reserve is currently buying $85 billion worth of long-term assets every month, and Fed Chairman Ben Bernanke has said that will continue until employment drops to 6.5% (it's currently at 7.7%) or inflation picks up  (it's currently at 0.7%).

While the Dow is hitting all-time highs, Bernanke said in testimony before the Senate last week, "I don't see much evidence of an equity bubble." With margin debt nearing all-time highs, I disagree with him and lay out my reasoning here.

More dividends
Consider these 10 companies along with the nine names from a new free report from Motley Fool's expert analysts called "Secure Your Future With 9 Rock-Solid Dividend Stocks." You can access your copy today at no cost! Just click here.


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