Beating the Dow 2008
An Investment Strategy Based on High-Yielding Blue Chip Companies
A review of the three basic Dow-beating strategies that have been discontinued and a proposal for a revised method of beating the Dow in 2008.
For many years investors turned to “The Dogs of the Dow” as a way to beat the Dow Jones Industrial Average year in and year out. Then, in 1992 Michael O'Higgins published his book entitled Beating the Dow which outlines an improved method of this mechanical investing strategy. Since then, David and Tom Gardner, authors of The Motley Fool Investment Guide and creators of Fool.com, have perfected the method in their “Foolish Four.” However, recently these strategies have not lived up to their reputation and are for the most part now obsolete. Nevertheless, with a little research, this method may be revised yet again into something that works on a consistent basis.
High Yield Ten
The original Dow-beating strategy is known as “The High Yield Ten” or “The Dogs of the Dow.” This method is very simple. Take the 30 companies that make up the Dow Jones Industrial Average and rank them by dividend yield and then take the top ten. As of February 2008 these companies are Bank of America (BAC), Pfizer (PFE), Citigroup (C), Verizon Communications (VZ), AT&T Inc. (T), General Motors (GM), General Electric (GE), JPMorgan Chase & Co. (JPM), EI DuPont de Nemours & Co. (DD), and Home Depot Inc. (HD). This strategy is the safest because it spreads out the risk over 10 companies, but on the downside it also dilutes potential returns.
Beating the Dow
Michael O'Higgins’s “Beating the Dow” strategy takes “The High Yield Ten” a step further. After taking the top 10 highest yielding Dow companies, filter out the five companies with the highest prices per share, keeping the five cheapest. As of February 2008 these are Pfizer (PFE), General Motors (GM), Citigroup (C), Home Depot Inc. (HD), and General Electric (GE). This selection of stocks is more likely to post larger gains in a given year because they are extremely large and successful companies with relatively low share prices compared with their peers. Additionally, their yields are relatively high compared to other companies with similar share prices.
The Foolish Four
A final strategy came from the workshop of The Motley Fool. This method is a little more complicated but still involves the same variables. The underlying theory is to create a ratio between the share price and the yield of each company so that you are able to compare companies while factoring both variables simultaneously. To get the ratio, simply divide the yield by the square root of the price. After you calculate this ratio for every company in the Dow Jones Industrial Average, rank them from highest to lowest and take either the top four or two through five (depending on whether you think the first is a worthy investment). Theoretically this selects companies that are undervalued and stand to grow the most in the coming year. In February 2008 the top 5 are Pfizer (PFE), Citigroup (C), General Motors (GM), Intel Corp. (INTC), and Home Depot Inc. (HD).
The Downfall
For years these strategies reaped great rewards for investors. However, it has recently been discovered that these strategies were great for a few decades, for one reason or another, but did not work in the past and will probably not work in the future. As a result, investors are searching for a new Dow-beating strategy.
Proposed Strategy
A potentially rewarding strategy would be a process of combining “Beating the Dow” with good old-fashioned market research. Take the top 10 yielding Dow companies and then do research on each one and determine whether they have a compelling product, a strong balance sheet, and the fortitude to withstand whatever conditions the market may bring. Taking these things into account, here is a proposed list of companies to collectively beat the Dow in 2008: Bank of America (BAC), Pfizer (PFE), Verizon Communications (VZ), AT&T Inc. (T), and General Electric (GE).
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