For many years, retired University of Guelph professor David Stanley has expounded on an investing approach that outperforms the market yet is implemented with the simplicity of passive-index investing. Called Beating the TSX, it is a Canadian version of the Dogs-of-the-Dow strategy.
Stanleys Beating-the-TSX approach selects and equal-weights ten stocks with the highest dividend yields from the S&P/TSX 60 Index (as of this year), updating them every May. You can see how this is a way to buy bargain blue-chip stocks — and how it doesnt require any particular expertise or more than a few minutes of effort each year.
Stanley publishes annual updates in the Canadian MoneySaver. The latest, in the June 2010 issue, reports that the Beating-the-TSX portfolio was up 32% in the year to May 2010, while the benchmark index was up 20%. From 1987 to 2009, the average annual gain has been 12.6% compared to 10.2% for the market.
The portfolio for 2010 is also discussed. It consists of the following stocks (dividend yield in brackets):
Shaw Communications (4.58%) TransAlta (5.58%) Husky Energy (4.43%) Power Corp. (4.25%) Sun Life (4.74%) BCE (5.45%) TransCanada (4.47%) TELUS (4.96%) Bank of Montreal (4.62%) CIBC (4.76%)
Setting aside the issues of commissions, taxes, diversification, period endpoints,etc. lets ask: can the outperformance last? As Burton Malkieland others argue, efficient markets dont allow excess returns to persist. Whenever excess returns are detected from a particular strategy, it attracts an influx of investors until the profit opportunity is fully discounted by their buying and selling. Afterwards, a random walk emerges.
This appears to already have happened to the Dogs of the Dow approach in the U.S. As highlighted in a recent post by Preet Banerjee, the strategy has trailed the Dow Jones Industrial Average by two percentage points annually, on average, over the 15 years to Dec. 31, 2009.
Why the performance difference between Canada and U.S? It seems U.S. investors have flocked to the opportunity more than Canadian investors. For one thing, Americans were introduced to the concept at an earlier date thanks to best-selling books, notably Beating the Dow(1991) by Michael O’Higgins and John Downs, The Dividend Investor(1992) by Harvey Knowles and Damon Petty and The Motley Fool Investment Guide(1996) by David and Tom Gardner.
In addition, the U.S. financial industry moved in on the opportunity big time. In 1991, Merrill Lynch started the Defined Asset Funds: Select Ten Portfolio Fund to buy Dow Dogs. In the following years, other funds were set up to capitalize on the strategy too.
Writing in the early 2002, Malkiel observes: For some past periods, this strategy handily outpaced the overall average, and so several Dogs of the Dow mutual funds were brought to market and aggressively sold to individual investors. However, such funds generally underperformed the market averages during the 1995 to 1999 period.
Writing in 2000, a University of Kansas professornoted: With thousands of individual investors independently following the Dow Dog strategy, Barron’snow estimates that as much as $20 billion (U.S.) is committed.
In Canada,adoption of the approach seems to be further behind the curve. I dont recall anybestselling Canadian books that have popularized the approach in Canada to the same extent asin the U.S. Ditto for the mutual-fund industry the formation of Dogs-of-the-TSX fundsappears to be of a lesser order. But with excess profits still to be had, as Stanleys updates highlight, one wonders if it is just a matter of time before the discounting increases to the point where the Canadian version of the Dogs of the Dow joins its U.S. counterpart on the performance tables.