One of the best-known and simplest trading strategies is the Dogs of the Dow, where investors buy 10 of the highest-yielding stocks in the Dow Jones Industrial Average at the beginning of the year and hold them all year in an effort to outperform the broader market.
That strategy paid off in 2018, at least on a relative basis. Investors who bought the 10 dog stocks would have lost 1.5 percent versus the Dow’s near-6 percent loss and the S&P 500’s 6.2 percent loss.
Brett Manning, senior market analyst at Briefing.com, says the strategy generally selects businesses with solid fundamentals that became undervalued based on the previous year’s market behavior. Not surprisingly, there are exchange-traded funds that attempt to replicate this strategy.
But an ETF with only 10 stocks might be a bit too narrow, so the handful of U.S. and international-based ETFs that try to replicate this strategy incorporate more holdings. That, Manning says, has the potential to dilute the strategy.
“Sometimes you don't know why something works, but it does. It's important to not deviate too much from that kind of a Darwinian process of understanding the market,” he said.
There are four U.S.-focused dog-strategy ETFs. The Invesco Dow Jones Industrial Average Dividend ETF (DJD) has eight of the 10 Dogs in its top 10 holdings, which is tops among the four funds. Among this group, Manning says DJD comes closest to replicating the strategy in ETF form.
The index picks securities from the Dow Jones Industrial Average that paid a dividend over the past four quarters, weighting them according to yield rather than price. It has 31 holdings and $108 million in assets under management. The expense ratio is 7 basis points and has a distribution yield of 2.6 percent. Year-to-date, DJD is up 2.52 percent. It has a one-year annualized loss of 0.04 percent and a three-year return of 15.2 percent. DJD has the best one-year and three-year return of the four dog ETFs.
For comparison, the straight-forward SPDR Dow Jones Industrial Average ETF (DIA) that's based on the overall index is up 2.9 percent year-to-date and is down 4.17 percent on a one-year basis. The three-year return is 16.2 percent and the five-year return is 10.3 percent.
Of the iShares Core High Dividend ETF’s (HDV) top 10 holdings, seven are current dogs. HDV tracks the Morningstar Dividend Yield Focus TR, a dividend-weighted index that focuses on 75 high-quality companies with sustainable dividend income. Its selection criteria is based on Morningstar’s economic moat philosophy which measures the sustainability of future company profits and a company’s likelihood of default. What separates the VanEck Vectors Morningstar Wide Moat ETFT (MOAT) from HDV is that HDV also includes selecting high-dividend yield as part of the process. The $6.7 billion fund’s yield is 3.6 percent and it has an 8-basis-point expense ratio. Year-to-date HDV is up 1.8 percent. On a one-year annualized basis it lost 2.1 percent, but is up 10.4 percent on a three-year basis and has a five-year return of 8.1 percent.
Six dogs make up the top 10 holdings in the First Trust Morningstar Dividend Leaders Index Fund (FDL). The fund’s 99 total holdings make it the largest of the four ETFs profiled here. It tracks the Morningstar Dividend Leaders TR USD, a dividend-weighted index of U.S. companies producing consistent and sustained dividend payments. It is the oldest of the funds, but has the smallest AUM at just $8.8 million. It’s also the costliest, with a 45-basis-point expense ratio. The distribution yield is 3.9 percent. Year-to-date it’s up 3.19 percent. FDL’s one-year annualized loss is 4.4 percent, but is up 10.5 percent on a three-year basis and has a five-year return of 9 percent.