Should You Buy These "Dogs" of the Dow?

From the Editor:  Due to a technical snafu, a small number of our readers may not have received yesterday's Tycoon Report.  If you were affected by this, you can view Chris Rowe's article, "2 Bullish, 2 Bearish Trades for 2011", by clicking here.  We apologize for any inconvenience, and thank you for your patience.

 

First off, I want to wish you a very happy and prosperous 2011.

Today I want to share a strategy for those of you who have been too afraid to get long during this most recent rally.

It’s a strange quirk of human behavior that has most investors wired to avoid the market when it is going up, and yet stay actively involved when the market is going down.

This whole concept of buying stocks "cheap", while psychologically comforting for hordes of investors, has proven to be an appallingly bad wealth creation strategy.  A wealth destruction strategy would probably be a more appropriate moniker.

Too many people confuse "buying on the cheap" with value investing.  The two are not the same.  "Buying on the cheap" is typically driven by highly subjective and reactive emotional responses.  Value investing, on the other hand, is a highly viable investment strategy grounded in very specific principles, rules, and strategies.

I am not a value investor by any stretch of the imagination, but I can tell the difference between a value investor and a "buy and hope" investor.  If you get nothing else out of this article, please get this: Only buy on strength, and only sell on weakness.  All that means is, buy stuff that is already rising in price and sell short stuff that is already going down in price.

Too many people want to short what's going up because it's "too high" and buy what's going down because it's "too cheap".  While this approach sounds sensible, when applied to the stock market it virtually guarantees that you will fail. 

However, if you absolutely will only buy on weakness, then there are some "buy on the cheap" strategies that actually have some merit.  One such strategy is to buy the "Dogs of the Dow."

This involves buying equal dollar amounts of the 10 highest yielding stocks in the DOW at the beginning of the year, and holding them until the end of the year.  These stocks will typically have a high yield due to their poor price performance relative to their DOW 30 Index peers.

While not a completely fool proof method, it has performed markedly better than many professional mutual fund managers have ...
 

(Click on image to enlarge)

The above table compares the performance of the Dogs of the Dow against the actual Dow, as well as against the gigantic Fidelity Magellan mutual fund.  Over the entire eight year period, both the actual DOW and the Magellan fund out performed the Dogs of the DOW.

But you can see that in four (2003, 2006, 2008, 2010) of the eight years, the Dogs beat the performance of the Magellan fund.  In fact, without the stellar 41.1% gain seen by the Fidelity Fund in 2009, the Dogs would have completely smashed the performance of Fidelity's flagship fund.  As of the end of 2008, the Dogs would have shown a 3.15% return versus Fidelity's 2.18% return!

Imagine it -- all of that brain power going into trying to beat the market, and for 6 years they couldn't even beat the Dogs of the Dow!  That's pretty humiliating!  Anyway, if you're interested in pursuing this strategy, here are this year's Dogs of the Dow:

(Click on image to enlarge)
 

Just for fun, you might want to compare your own returns since 2003 against the performance of the Dogs of the Dow.  I'd also suggest comparing the performance of your broker/financial advisor as well, because if either you or your advisor can't even beat the Dogs of the Dow, that should be a clear as day signal to you that it's time to make a change.

Please share your results with us, and be honest!  Self honesty is the first step to shedding your old money-losing ways and creating the new actions necessary to ensure your financial success.

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