This Simple Stock Screen Beat the Dow in 2018

This popular strategy could be making a comeback -- especially given how well it's done despite one huge weight dragging it down.

Dan Caplinger
Dan Caplinger
Dec 29, 2018 at 7:31AM
Investment Planning

2018 has been one of the most turbulent years in recent memory, with gut-wrenching declines and sharp rebounds keeping investors off-balance. Under these conditions, many investors look for simple ways to try to outperform the market -- or at least reduce the volatility that they suffer in their quest for strong long-term returns.

One way that many investors look to protect their portfolios from the full brunt of the stock-market's movements is to emphasize beaten-down blue chip dividend stocks. Each year, they follow the Dogs of the Dow strategy, which selects a subset of the 30 stocks that make up the Dow Jones Industrials (DJINDICES:^DJI). In a tough year for the overall market, the Dogs of the Dow have outperformed the broader average, and what's particularly impressive is that the strategy has done so well despite a big drag from one individual stock.

Investment

Price Change in 2018 Year to Date

Dow Jones Industrials

(6.4%)

Dogs of the Dow

(4.2%)

Source: Dogs of the Dow website, Yahoo! Finance. As of Dec. 27.

Understanding the Dogs of the Dow strategy

Every year, investors look at the 30 Dow stocks to find out which ones will qualify as the Dogs of the Dow. In order to pick the Dogs, you start by putting the Dow 30 in order by dividend yield. The 10 top-yielding Dow stocks qualify as that year's Dogs of the Dow.

To implement the strategy, all you have to do is take your available investment capital and break it into 10 equal portions. Buy shares of all 10 Dogs with those amounts, and then hold them throughout the year. At the end of the year, if you want to keep using the strategy, you'll do a new ranking of the Dow 30 by yield. That'll typically result in some current Dogs getting removed from the list, while other Dow stocks will become Dogs for the following year.

How the Dogs bounced back

Throughout much of the year, the Dogs of the Dow didn't do well. When most of the market was rallying, the 10 stocks among the Dow's Dogs were largely left behind. In particular, energy stocks were a big drag on performance and the poor showing from General Electric (NYSE:GE) weighed on relative performance. Given that 2017 also had been a tough year for the Dogs, some were ready to write off the strategy entirely -- despite positive results in six of the seven years prior to that.

Downward-facing stock chart in red ink, next to picture of Alexander Hamilton from $10 bill.

Image source: Getty Images.

Yet when the Dow suffered its massive reversal late in the year, the Dow's Dogs showed their mettle. General Electric continued to struggle, but high-yielding pharmaceutical stocks did extremely well, and high-profile consumer-products companies also pulled their weight in supporting the Dogs. In fact, without the downward influence of GE -- which has since been taken out of the Dow -- the Dogs of the Dow would be up for the year.

Admittedly, I've jumped the gun a bit, with a couple of trading sessions left before 2018 officially comes to a close. Given the way the market's moved lately, nothing's a sure bet -- but there's reason to believe that the Dogs will be able to hold onto their modest lead in the final week of the year.


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What to expect for 2019

With the end of 2018 upon us, the big question going forward will be what the Dogs of the Dow will look like in 2019. At this point, it appears that the 2019 Dogs will be almost identical to stocks chosen in 2018, with only JPMorgan Chase (NYSE:JPM) being a new entrant on the list to take General Electric's place. That level of consistency isn't unheard of, but it's relatively rare, because the big gains that individual Dogs often produce are enough to send their dividend yields below the threshold for the top 10 the following year.

Regardless of which stocks make up 2019's Dogs of the Dow, many investors will continue to look to the strategy as a way to hedge their bets against continued turbulence in the markets. Even though the Dogs weren't able to avoid losses in 2018, they still showed that they can compete effectively against the venerable stock market average and post at least a small victory.