Benefit from the rally of undervalued stocks with the “Dogs of the Dow” strategy?

In the financial markets, some investment strategies have enjoyed decades of popularity, while others have quickly fallen into oblivion. One of the best-known concepts is the “Dogs of the Dow” strategy developed by Venezuelan-born US economist Michael B. O’Higgins and presented in his 1991 bestseller “Beating the Dow.” In this article, you will learn what the strategy is, how it works, and what its advantages and disadvantages are.

What is the “Dogs of the Dow” strategy?

In its original form, the “Dogs of the Dow” strategy focuses on selecting stocks from the Dow Jones Index. The idea is simple: from the 30 largest companies in the Dow Jones Industrial Average, you select the ten stocks with the highest dividend yield. These so-called “dogs” are bought at the beginning of the year and held for one year.

“Dog” is a colloquial term for something inferior or unattractive. On the stock market, it refers to stocks that have performed poorly in the past. The “Dogs of the Dow” strategy is based on the assumption that companies with high dividend yields tend to be undervalued and have the potential to outperform the overall market. Dividend yields often rise when the share price falls, which could indicate that a stock is undervalued and therefore offers growth potential.

How does the “Dogs of the Dow” strategy work?

Here is a step-by-step guide to implementing the Dogs of the Dow strategy:

1. Create a list of Dow Jones companies: Create a list of the 30 companies included in the Dow Jones Industrial Average (DJIA).
2. Select the top 10: On the first trading day of the year, select the ten companies with the highest dividend yield. These companies are referred to as the “dogs.”
3. Buy and hold: Buy shares in these ten companies on the same day and hold them in your portfolio for one year.
4. Reassessment after one year: Review the stock selection again on the anniversary date one year later and rebalance the portfolio in line with the strategy. Dividends received during the year are reinvested.

Why is this strategy so popular?

By focusing on high-dividend companies in the Dow Jones, investors are betting on large, established companies that are stable enough to weather crises. In a modified form, the strategy is also applied to other indices in practice. Incidentally, in a recent interview with the Swiss online media outlet “The Market,” the inventor of the dividend strategy stated that he no longer uses it in its original form, but now prefers the so-called “Dogs of the World.”

Advantages of the “Dogs of the Dow” strategy

• Simplicity and minimal time commitment: This strategy requires neither complicated analysis nor market timing, and it is not very time-consuming.
• Cost efficiency: Since shares are only purchased once a year and held until any reallocation on the cut-off date, transaction costs are comparatively low.
• Regular dividends: The high dividend yield ensures regular distributions.
• Lower volatility: Focusing on large, stable companies generally minimizes risk compared to concentrating on smaller, volatile companies.

Disadvantages and risks of the strategy

• Conclusions from index compositions: Since the strategy in its original form is limited to the Dow Jones Index, it could be influenced by changes in the index composition.
• Potential concentration risk: The high weighting of the US in global indices may represent a potential concentration risk.
• Weaker performance during periods of particularly strong growth: In times when growth stocks are generating high returns, the Dogs of the Dow strategy can lag behind, as it focuses on established companies with high dividends.
• No protection against losses: Even large companies can lose value in crises, which means that the “Dogs of the Dow” strategy does not offer complete protection against price losses.

Important note: Investments involve risk. Past performance is not a reliable indicator of future results. This does not constitute investment advice.