Dogs of the Dow
What it is:
"Dogs of the Dow" is a stock-picking strategy whereby an investor buys equal amounts of the 10 highest-yielding stocks within the Dow Jones Industrial Average at the beginning of each year. After every year, the investor updates their holdings to reflect the current highest-yielding stocks in the Dow.
How it works (Example):
The Dogs of the Dow strategy was popularized in 1991 by renowned money manager, Michael O’Higgins, in his book, "Beating the Dow."
The Dogs of the Do" strategy is based on the idea that the 30 stocks within the Dow Jones Average are generally strong companies with profitable operations. Therefore, investors using this strategy believe the highest-yielding stocks still have strong businesses, but have simply been sold off (hence the term "dog"). With their higher yields and undervalued share prices, these stocks should rise in price faster than other members of the Dow.
However, the strategy also has a number of drawbacks. For example, an investor does little or no research on the companies they're investing in with this strategy. Sometimes even the stable stocks of the Dow sell off because of problems in the underlying business -- the high-yield may actually act as a warning signal.
Why it Matters:
Dogs of the Dow represents one of the simplest strategies investors have used to try and outperform the broader market. However, the recession of 2008-09 caused many to question the strategy after Dow components like General Motors saw major losses. Many other components saw high yields from falling share prices that ended with dividend cuts.