Do The Dogs Still Have Bite?

DEFINING THE DOGS
Before we begin, let me review what the Dogs actually are. The Dogs of the Dow is a straightforward strategy in which, on the last trading day of the year, you buy equal shares of the 10 highest-yielding Dow components, holding those 10 shares until the next year. One year later, you do the exact same thing, making adjustments to your portfolio of stocks as necessary.

Now let's look at the most recent past and see the performance and returns for the 2005 Dogs (see Figure 1).

Figure 1: 2005 Dogs Of The Dow. Here you see how they performed for 2005.

The 2005 Dogs of the Dow were a disappointment, as there were more losers than winners. SBC communications merged with AT&T in 2005, which reflected in the price of AT&T stock, while the biggest mover was obviously Altria Group, which was up 22% in the year. The biggest loser was General Motors, which lost more than half of its value. Clearly, you can see why you have to buy equal amounts of all 10. Otherwise, there would have been no way to know which stock you should have a bigger position in.

Lets go back another year and look at Figure 2 to see the 2004 Dogs of the Dow.

Figure 2: 2004 Dogs Of The Dow. There were more winners in 2004 relative to 2005.

The 2004 Dogs of the Dow yielded more winners than the 2005 Dogs did. The biggest winner was ExxonMobil, which returned 25% in the year. On the downside was General Motors, which lost 30%.

Altria Group should be mentioned again, as it returned a nice profit. The 2004 Dogs of the Dow had five winners and five losers. Of those 10, Merck and General Motors were the big losers, while ExxonMobil and General Electric were the big winners.

Going back another year brings with it another story. Figure 3 shows the results for the 2003 Dogs of the Dow.

Figure 3: 2003 Dogs Of The Dow. The performance for 2003 was not too shabby, with only three losing stocks.

The 2003 Dogs did quite well. There were seven winners, of which the lowest return was 8% by DuPont. Phillip Morris' 53% return was no slouch, and the big winner was Caterpillar, which returned an astounding 83% for the year. On the downside, there were three losers, the biggest of which was Eastman Kodak, with a 27% loss.

As you can see, the recent Dogs of the Dow had mixed results at best. Of the past three years, 2003 was a great year that resulted in a lot of winners, while 2004 — not bad, but certainly not great — had two stocks that really hurt your results for the year. Finally, 2005 was the worst. So is this a trend or is this a blip? Those who follow the Dogs strategy can be rest assured that, like all systems, they will go through periods of lows.

Let's look at the 2006 Dogs of the Dow, based upon the last trading day of 2005.

THE 2006 DOGS OF THE DOW
To follow this strategy, these 10 are the stocks you should own in equal numbers, and hold until the following year. The list in Figure 4 shows the name of the company, as well as their corresponding ticker symbol followed by the yield.

Figure 4: 2006 Dogs Of The Dow. What can we expect going forward for 2006?

Note that the 2006 Dogs of the Dow are the same as the 2005 Dogs (with the obvious exception that SBC Communications is now part of AT&T). The yields have changed, but the stocks have not. GM's losses will make a few investors pause, but when it comes to trading, second-guessing a strategy is not wise. To stick with this system, you must purchase General Motors, even though things look bleak, to say the least.

RUNNING WITH THE DOGS
So do the Dogs of the Dow help an investor take a bite out of the financial pie? Clearly, in 2004 you would have been grinning from ear to ear as the winners far outpaced the losers. For the past two years, however, the story turns out to be a bit different. Some may argue that looking back at three years of performance is not a fair judgment of a strategy's effectiveness. I disagree. The Dogs of the Dow strategy is sound, and three years is enough time to see whether it is right for you.

Let's take a look again at the 2005 returns. Remember, in order to follow this strategy over the past three years, you would have had to hold onto GM all the way down and watch it lose 50% of its value. It's a tough proposition any way you cut it. GM fell 25% the year before, and holding a stock that has gone down in value for back-to-back years can be very painful. Even worse, GM is back again, topping the 2006 Dogs of the Dow list.

On the flipside, you have two stocks that made you money all three years: JP Morgan Chase and Altria Group. The best spotlight return of all the three years belongs to Caterpillar, which had an almost 82% rise in the stock price for the year. While it might seem logical to ignore a continual loser like GM, that would not be the best way to approach it. When trading a strategy, you should stick to the rules set for it or not use the trading plan at all.

Obviously, there's no way of knowing what 2006 will be like, and that is the best argument for the Dogs of the Dow strategy. If you want a strategy that is clear-cut and easy to follow, this certainly fits the bill.

Whether you choose the Dogs of the Dow or some other strategy, I wish you good luck in 2006.

John Devcic is a market historian and freelance writer. He may be reached at glatko@aol.com.

SUGGESTED READINGDevcic, John [2002]. "Beat The Dow With The Dogs Of The Dow", Working Money, February 5.
Penn, David [2005]. "The Dow's Dogs, Undaunted", Working Money, January 25.
______________ [2002]. "Bear Baiting & The Dogs Of The Dow", Working Money, October 8.

Current and past articles from Working Money, The Investors' Magazine, can be found at Working-Money.com.