Welcome back to the continuation of my series regarding the Dogs of the Dow theory of investing. Last month I covered some of the basics of how this process works, the history of its development and the people responsible for it, and some performance data to give investors an idea of how things have worked out over time for people that choose to have some part of their overall equity positions managed in this fashion. If you missed that first article and would like to review it before moving into this second part (and I recommend you do), you can see it here.
But if you are in a hurry to move forward, here’s a very basic outline of the previous facts as presented.
The Dogs of the Dow theory was brought to life in late 1990 by Michael O’Higgins, a money manager in Miami Beach, Florida. He published a book entitled Beating the Dow that explained what his research into this methodology had uncovered and went on to lay out how to establish an account and use the system for yourself. Copies of that book are still available online at Amazon or Barnes and Noble.
These are the steps an investor must follow to get an account set up under this system:
- Find a table of the DJIA 30 stocks that shows the share price as of the last business day of the year and either the current annual dividend or the current yield. If your table shows the annualized current dividend but not a yield, calculate the yield by dividing the annual dividend by the stock price. You will need that yield number in a moment. If you are doing this at any time other than year-end, that’s OK. Just go with the current share pricing and dividend/yield as it exists at the moment.
- Sort the 30 stocks by yield, placing the highest yielding issue first, then the second highest, etc., until you have identified the 10 highest yielding stocks in that universe.
- Decide how much money you want to devote to the strategy. A minimum of $10,000 is recommended, but as an absolute minimum you can think in terms of $7,500. That’s just to keep the cost of commissions down to a level where they don’t take too much away from the results in terms of % cost.
- This is optional but highly recommended: Open a new account to hold only these stocks. Reason? So you can track performance accurately. If you mix these positions in an account with others you’ll have the Devil’s own good time figuring out how they did at year’s end.
- With the new account set up, transfer in the cash you are willing to invest. Then spread that cash equally (in dollars, not shares) over the ten selections. Decide if you want to take your dividends in cash as they are paid for personal use, or if you don’t really need the cash currently. If you don’t need/want the income stream, when you make your buys, indicate that the dividends are to be reinvested in full and fractional shares of the paying security as received (known as a D.R.I.P. plan, “Dividend Reinvestment Program”). Reinvestment is recommended but not required. You can also choose to have the dividends paid into the account and just held there for future use if you desire. If that is your choice, there will be a way to get that sum reinvested later if you want.
- Now, with the calculations made, the account set up, the shares purchased, and the way to handle dividends established, just one final thing remains: Sit back, relax, and let the system do its work for you! Could anything be easier to understand and deploy? If so, I don’t know what it is.
- At the end of the calendar year in which you got started you must make your annual adjustments. This involves rebalancing the share allocations and making any stock position changes if warranted. Rebalancing is perhaps the most challenging part of this process. I’ll have a lot more to say about it later in this message, so stay alert for that.
Note: If you are getting started at any time of the year other than the first business day of a new calendar year, that’s fine. I call that the “stub year”. Just make the yield calculations as described for that moment and buy the indicated securities. But please note this recommendation: if you are setting up on or after October 1st, I found it reasonable to buy only the first 8 stocks on the list and hold off for the number 9 and 10 positions for the time being. The reason for that is because, once you get down to that last two or three stocks, the yields are often so very close to one another that over a short time frame the companies can change as share price moves about a bit. If you bought the full compliment of 10 in, say, mid-November, when January 2 comes around just six week later you might find that those last two buys are now number 12 and 14 or so. Something else will have replaced them and you have to sell in such a short time frame. It’s usually not worth that, so just keep the cash in the account and be patient, wait to see what the new year brings and then fill out the remainder of the positions. Then start the new year with the proper 10 positions in the account and use that as your anniversary and realignment date in the future.
I also covered some historical results comparing the Dogs theory yearly results with that of the DJIA 30 and the S&P 500. The overall results show favorably for the Dogs, although they don’t beat those averages each and every year. But, over reasonably long time frames, 10 to 20 years, they tend to do so on average. And that’s a big part of the attraction for investors. A simple way to be in equities with results that could outpace the major indexes with little effort, time, or expense.
I also talked a bit about my own experiences as a Financial Advisor with clients that participated in a program I devised in 1992 based on this theory. I wrote a marketing brochure to use with prospects that detailed all the performance numbers from 1972 through 1997 (the last year I was allowed by my firm to write and publish this brochure on my own) as well as answering a lot of commonly asked questions and the way I helped them run the account. You can see the last edition of this brochure here. I suggest you have a look at it. Lots of information presented concisely as well as performance data for years that are hard to find nowadays.
Now, let’s get on with this and cover some new and informative ground. We’re going to peek behind the curtain a bit to see what it is really like to manage money with this system based on my real-life experiences with clients. It’s one thing to read and talk about it. It can be quite another to execute it, as you will see.
For Whom Doth This Bell Toll?
Now that you have a grasp of how the Dogs of the Dow system works, and how to implement it for yourself, the question to answer is this: is it right for you?
The answer to that can’t be found in a textbook or by applying some cookie-cutter application. The answer is highly personal and depends on many factors, factors that are specific to you and your situation. Not everyone is a prime candidate here. But many are, at least as far as my experience has shown me.
You see, a lot of readers on this site are more well informed, talented, and educated than the general populace of investors. They are rather sophisticated in their approach to investment research, selection, and timing of buys and sells. For them, this may seem too simplified, too basic to warrant attention. I get that – I truly do. But in the greater scheme of things, a much larger audience doesn’t share those characteristics due to time, interest, or ability. And there are some who are just basically uninterested in this entire process of investing, preferring instead to find a knowledgeable and trustworthy professional to handle this for them. There is absolutely nothing at all wrong with this. Not everyone is cut out to be their very own professional investment expert. This is true for many things in life. If your car needs a new fuel pump or a/c compressor, do you run out to the auto supply store, buy the parts, and install it yourself? If your child is running a fever, coughing and having trouble breathing, do you go directly to a medical advice website, read and do your own diagonisis, then get to the pharmacy to buy the medication needed to solve this health issue? I hope not. And so it is true here as well. Depending on your own needs and abilities, finding a way to invest with confidence in a simple system that can be worked with minimal effort and brain-straining requirements can be a real godsend. If that is you, welcome to the Dogs of the Dow strategy.
After I got started using the Dogs as one of the ways I worked with clients, I began to develop a profile of sorts to help me identify the people that could be both receptive to the idea and well-suited for it. After perhaps a couple years and several dozen clients getting involved, I came up with a series of questions I would ask during our initial and subsequent discussions of the client’s objectives, risk tolerance, and investment expertise. This profiling process is a mandatory part of the “know your client” rule imposed by the SEC on Financial Advisors and is in place to help assure that the investment recommendations made by the FA are “suitable” for the client. I’d add that if any of you are working with a FA, or considering doing so, and you haven’t had even one sit-down with them to go through a formal profiling process, you might want to look for another advisor to work with. It’s that important for both of you.
Below I am going to construct a short list of comments I might hear from prospects or clients that gave me the clues I needed to determine if using the Dogs strategy could be suitable for them either as part of an overall equity investment process or, in some cases, as the only method for equity investing they could be comfortable with. Read each of these and make a mental note as to whether or not it could be something you might say. Be honest with yourself – nobody here to try and impress with your abilities or desires. When done, tally up the “yes’s” and “no’s”. I