Dogs of the Dow Stock Trade is Dead – Don’t Fall for the Hype

I hate to break it to you but the Dogs of the Dow trade is dead.  It’s that time of year where you’re going to hear all kinds of archaic trading strategies like the January effect and the Dogs of the Dow that worked decades back but no longer deliver any additional alpha and instead expose investors to additional fees and tax liabilities if comparing to a simple broad market index ETF like SPY.  Historically, by holding the 10 highest yielding stocks of the Dow 30 Industrials (the highest yielding stocks at a particular time are usually indicative of the worst recent performance since share price is inversely correlated with yield all other things being equal), a strictly executed “Dogs of the Dow” strategy slightly outperformed the Dow Jones Industrial Average at large over long periods of time.  However, the Dogs of the Dow 2009 strategy or other recent years for that matter, no longer outperforms and at this point, why investors think it would is more urban legend and investor lore than it is logic and data. The index itself has become less relevant over time (more like Dow of the Dogs), with its share-price weighted methodology and old world holdings compared with the more diverse S&P500 and Tech-centric Nasdaq, and it is terribly skewed when considering the whacked out behavior of the Financials in the DJIA over the past few years.  Keep in mind also, that efficient markets don’t leave a trend intact for decades on end without arbitrageurs eventually leveling the playing field – especially for an oft-discussed strategy such as Dogs of the Dow.

Dogs of the Dow ETF, ETN or Straight Stocks?

Since there are probably very few investors who would go to the lengths of manually purchasing 10 stocks each year and rebalancing, and since there’s not a Dogs of the Dow ETF, the best proxy for this strategy is the Dogs of the Dow ETN (DOD).  Aside from the fact that these Elements ETNs are thinly traded and often return bizarre results (like when this Gold ETN delivered a 421% gain while gold was up just a fraction of that), ETNs also subject you to solvency risk of the issuing party and tax liabilities as well.  Putting all that aside, let’s look at actual performance:

• In 2008, DOD underperformed SPY by losing 43% vs. a loss of 37% for SPY .

• YTD 2009, DOD has underperformed SPY by gaining 24% vs. 26% for SPY.

Even adding in a slightly higher yield for the Dogs if you owned the stocks individually, the extra 1-2% in dividends wouldn’t make up for the offset from comparable options, especially given the higher tax turnover with such a methodology.  I would not expect a Dogs of the Dow 2010 Stock strategy to outperform any more than a random selection of any 10 Dow stocks.

Looking to Beat the Market?

If you’re looking for various investment strategies that do seem to be beating the broader indices in an ETF format, checkout some of these Niche ETFs that all have recent outperformance, as well as this Spinoff ETF up over 60% YTD.

Tagged as: Dogs of the Dow, ETF