Dow Dogs Make Their Mark With Pure Mechanical Approach
by Wayne A. Thorp
Regular readers of these stock screen articles know that we discourage viewing the results of any stock screening methodology as a buy or recommended list. Instead, we view the list of passing companies of any approach as a starting point, not the finished product. However, some quantitative approaches, by their nature, are purely mechanicalthe final list of companies is what you buy. One such approach is the Dogs of the Dow, which was popularized in the book, Beating the Dow by Michael OHiggins and John Downes (Collins, 2000).
The dogs are stocks among the 30 Dow Jones industrial average companies that have the highest dividend yield (a companys indicated dividend payment for the upcoming year divided by the current share price). These companies, on average, have the financial position, resources, and visibility to see them through any financial storms.
The Dow Dogs methodology emphasizes out-of-favor Dow stocks that are possibly underpriced relative to others, as indicated by high dividend yields. Often, this is the result of the markets overreaction to unfavorable short-term developments or business cycles. Over time, OHiggins and Downes argue, the stocks will regain a value that reflects the actual underlying risk. Overall, the philosophy combines a strategy of investing in high-quality stocks with a contrarian approach.
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