Dogs of the Dow Trading Strategy

Dogs of the Dow Trading Strategy – Rules, Performance, and Backtest

Dogs Of The Dow (DOD)

Some investment strategies allow you to enjoy maximum dividend income, and Dogs of the Dow is one of such. But what does it really mean and how has it performed lately?

Dogs of the Dow Trading Strategy is a stock-picking strategy for selecting the highest dividend-paying Dow stocks. This investment strategy attempts to beat the Dow Jones Industrial Average (DJIA) each year by leaning portfolios toward high-yield investments. However, while it has outperformed until it was revealed, our backtests reveal that the Dogs Of The Dow strategy has underperformed compared to S&P 500 during the last couple of decades.

What are the Dogs of the Dow?

“Dogs of the Dow” is a stock-picking strategy for selecting the highest dividend-paying Dow stocks. The strategy attempts to beat the Dow Jones Industrial Average (DJIA) by investing in Dow component stocks with the highest dividend payout.

The idea is to allocate money to the 10 highest dividend-yielding, blue-chip stocks among the 30 components of the DJIA and then rebalance the portfolio at the beginning of each calendar year. That is, on the last trading day of the year, arranges the stocks in order of their dividend yield and invests equal dollar amounts in the 10 highest-yielding ones in the new year. The portfolio is held until the year when it is rebalanced to reflect the highest-yielding 10 stocks in the Dow Index. Rinse and repeat.

For example, the 2022 Dogs of the Dow are given in the table below:

 TickerCompanyDividend Yield
1DOWDow4.94%
2VZVerizon4.93%
3IBMIBM4.91%4
4CVXChevron4.57%
5WBAWalgreens3.66%
6MRKMerck3.60%
7AMGNAmgen3.45%
8MMM3M3.33%
9KOCoca-Cola2.84%
10INTCIntel2.70%

While this strategy aims to get the best of the opportunities available in blue-chip dividend stocks, it doesn’t always outperform the average — in fact, it underperformed in 2021. Nonetheless, it has a solid long-term track record that appeals to many income investors. We look at the most recent performance further below in the post.

Who invented the DOD strategy?

The strategy first became popular in 1991 when Michael B. O’Higgins’ book, Beating the Dow, was published. In the book, O’Higgins coined the name “Dogs of the Dow” to explain the concept of investing in the top 10 Dow component stocks with the highest dividend yield.

However, the “Dow 10” theory has an older history. The concept first came up in 1951 in an article by H. G. Schneider published in The Journal of Finance. Schneider explained the idea of selecting stocks based on their price/earnings ratio. The concept also appeared in The Wall Street Journal in the early 1980s.

How can you invest in the Dogs of the Dow?

There are many ways to invest in the Dogs of the Dow. You can invest in individual stocks and build your own portfolio of the Dogs of the Dow. Alternatively, you can go through exchange-traded funds (ETFs) that invest in the stocks that make up the Dogs of the Dow. There is even a mutual fund that follows the DOD strategy.

Any method you choose is fine. The only difference is that buying the stocks individually might cost you more money and would require a reasonable capital to create a portfolio. Investing via an ETF may be cheaper.

Dogs Of Dow ETFs

There are thousands of ETFs, and there are several ETFs that track the Dogs Of The Dow strategy. To our knowledge, we have the following ETFs that could be labeled Dogs Of Dow (ticker codes first):

  • SDOG (ALPS Sector Dividend Dogs ETF)
  • IDOG (ALPS International Sector Dividend Dogs ETF)
  • EDOG (ALPS Emerging Sector Dividend Dogs ETF)
  • DJD (Invesco Dow Jones Industrial Average Dividend ETF)
  • SDOW (Invesco Select 10 Industrial Portfolio – inverse ETF (short))

All of them are reasonably liquid and there should be no problems getting in and out without paying for huge amounts of slippage.

Dogs Of The Dow mutual funds

There are even mutual funds that follow the Dogs Of The Dow strategy:

  • HDOGX (Hennessy Total Return Fund)
  • HBFBX (Hennessy Balanced Fund)

Pros of the Dogs Of The Dow strategy

Let’s look at the pros and advantages of the Dogs Of The Dow strategy:

  • Simplicity: The most obvious advantage of the strategy is its simplicity. Every year you just buy the ten stocks with the current highest dividend yield. Thee is nothing to evaluate and analyze. Perhaps easier, just buy the ETF and forget about it.
  • Large-cap stocks: All components of the Dow are “proven”. Most of them have a long history and are unlikely to go bankrupt.
  • High yield and “income”: They offer you “income” in the form of dividends. We write “income” because it’s a capital distribution.
  • Low costs: Because you only buy ten stocks, any costs are low.
  • Mean reversion: many stocks with a high yield face (temporary?) problems, thus the high yield. Hence, you face huge rewards if the stocks turn around.

Cons of the strategy

Let’s look at the cons and disadvantages of the strategy:

  • Behavioral mistakes: Sticking to a strategy can be tough, especially when the going gets tough and it underperforms. A specific strategy is though to follow at all times.
  • Losses: All theme-based strategies either temporarily have weak periods (years!) or they get extinct.
  • Poor diversification: While ten stocks is theoretically a decent diversification, you are pooling the funds in a particular type of stocks. We would argue that diversification is poor.

Dogs Of The Dow (DOD) strategy backtest no. 1

Let’s do some backtests and look at the performance.

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We have data back to August 1998 and this is how a 10 000 investment would have performed with dividends reinvested:

Dogs of the dow vs S&P 500
Dogs Of The Dow (DOD) backtest. DOD vs S&P 500. The red line is S&P 500. Logarithmic scale.

A 10 000 investment in S&P 500 (SPY) is worth 60 000 compared to only 32 000 for the Dogs Of The Dow Strategy. The CAGR is  7.7 vs 5%. The management fee explains part of the difference, but not all. Thus the DOD strategy has underperformed significantly over the last couple of decades.

DOD strategy backtest no. 2

Let’s make a second backtest of the DOD where we look at the more recent performance and compare to three different ETFs that we mentioned further up in the post: SDOG, IDOG, and EDOG:

Dogs of the dow vs S&P 500
S&P 500 vs three Dogs Of The Dow ETFs: SDOG, IDOG, EDOG. Logarithmic scale.

A 10 000 investment in April 2014 is worth 19 000 for SDOG, 11 600 for IDOG, 11 200 for EDOG, and 23 300 for S&P 500 (SPY). SDOG, which is the one that resembles the DOD strategy the most, performed best among the ETFs. However, all of the ETFs underperformed the broad market (S&P 500).

Other Dow strategies

Another relevant strategy might be the Dow Theory developed by Charles Dow. We have discussed and backtested the Dow Theory:

The DOD strategy – conclusion

While the Dogs Of The Dow strategy offers both simplicity and a pretty common-sense approach, it has underperformed massively over the last couple of decades. Please keep in mind that any strategy performs poorly at intervals of many years. However, we believe the Dogs Of Dow strategy should only be a small part of your assets due to poor its diversification. Next time we will test Dogs of the dow sp500.

FAQ:

What is the Dogs of the Dow (DOD) investment strategy?

The Dogs of the Dow strategy is an investment approach that involves selecting the highest dividend-paying stocks from the Dow Jones Industrial Average (DJIA). This strategy aims to outperform the broader market by focusing on blue-chip stocks with the highest dividend yields. The name “Dogs of the Dow” comes from the idea of picking stocks that are currently out of favor but have the potential for higher future returns.

How does the Dogs of the Dow strategy work?

The strategy entails allocating funds to the 10 highest dividend-yielding stocks among the 30 components of the DJIA. This portfolio is then rebalanced at the beginning of each calendar year. Specifically, on the last trading day of the year, the stocks are arranged in order of their dividend yield, and equal dollar amounts are invested in the 10 highest-yielding stocks for the upcoming year. This process is repeated annually.

How has the Dogs of the Dow strategy performed historically?

The strategy gained popularity in 1991 when Michael B. O’Higgins introduced it in his book, “Beating the Dow.” While the Dogs of the Dow strategy had historically outperformed, recent backtests indicate underperformance compared to the S&P 500. Over the last couple of decades, the strategy has faced challenges, and its returns have not matched those of the broader market.

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