<FOOLISH FOUR PORTFOLIO>
Et Tu, Dow?
How do those Dow Splitters Fare?
By
Ethan Haskel [email protected]
and
BALTIMORE, MD (September 8, 1999) -- Both the Beating the S&P and the Dow Investing strategies that we discuss here (including the Foolish Four) use two financial criteria to identify the out-of-favor stocks selected by our strategies: dividend yield and current stock price. One frequent criticism of these strategies is that picking stocks based on price tends to favor stocks that have recently split which is not usually an indicator of out-of-favorness.
Two reasons for the criticism are given. One, stocks that split are usually stocks that are increasing quickly in price, which doesn't exactly fit our image of downtrodden "dogs of the Dow and S&P30." Two, as all knowledgeable investors know, a stock split is merely an accounting adjustment that has no effect on how well the company performs. Companies usually split their stock to keep it within a certain price range, often after a quick run-up. (Since earnings per share, dividends and other share-related items also split, those fundamental stock valuation factors [including yield] don't change.) A split has no more bearing on long-term stock performance than a name change.
But because of the way Beating the S&P and many of the Dow Investing strategies select stocks (the 4 or 5 or x lowest-priced stocks are selected from a list of the 10 highest-yielding [HY] stocks), if one of the higher-priced HY stocks splits prior to the day the stocks are selected, that stock might end up being picked solely because of the split.
The critics are right. If our strategy is to buy cheap Dow or S&P companies in order to take advantage of a (hopefully) impending recovery, then including stocks that have made the list solely because of a recent split doesn't make much sense. They obviously don't fit the profile we are looking for. But, so far, that is the way all of these strategies have worked.
Last week we showed that sometimes we were selecting "pseudo-dogs," stocks that met our criteria partially because the company's stock price had been artificially lowered due to a recent stock split, rather than pessimism about the company's future. We expected that such post-split stocks wouldn't help our returns, but were somewhat surprised to see how badly they did. We concluded that leaving such stocks out of the strategy would make good sense.
Since there doesn't seem to be anything inordinately unique about Dow stocks compared to BSP stocks, a good test of the validity of that decision would be to see if the high yielding Dow stocks that split recently also performed poorly.
To answer this question, we looked at all the high-yield, low-price Dow stocks since 1961, the period covered by the Dow Dividend Spreadsheet. The classic Beating the Dow strategy selects 5 stocks each year -- the 5 lowest-priced stocks of the top 10 high-yielding stocks in the Dow 30. I also looked at the Foolish Four stocks over the same time period. All stocks were selected based on prices and dividends at beginning of each year.
Since 1961, 12 stocks out of a total of 190 (or 6%) of the classic Beating the Dow stocks had split within the previous year. For the same time period, 5 Foolish Four stocks out of a total of 152 (3%) had split recently. Let's see how these stocks performed.
Note: Like our work last week with the BSP stocks, the "Rank" designation in the charts below does not refer to the stocks beginning price rank (as rank is usually used) but to how that stock's return compared to the returns of the other BTD stocks selected that year, with "1" representing the best-performing stock for the group, and "5" the worst ("4" would be the worst for the Foolish Four).
Beating the Dow Stocks:
Year Stock Return (Rank) S&P 500Dow
1963 American Tobacco 1.30% (5) 22.80% 22.98%
1965 Woolworth 16.30% (4) 12.45% 17.31%
1982 Alcoa 20.30% (3) 21.41% 19.53%
Exxon 3.60% (5)
1988 Primerica 16.70% (3) 16.81% 13.78%
1990 General Motors -16.30% (3) -3.17% -9.14%
1991 Westinghouse -30.80% (5) 30.55% 30.36%
1995 Chevron 23.20% (4) 37.43% 36.69%
Minnesota Mining & Mfg 28.90% (3)
1996 International Paper 9.30% (5) 23.07% 24.32%
1998 DuPont 6.80% (5) 28.70% 15.95%
Philip Morris 19.70% (2)
Average Return 8.25% 21.12% 19.09%
Foolish Four Stocks:
Year Stock Return (Rank) S&P Dow 1963 American Tobacco 1.30% (4) 22.80% 22.98% 1965 Woolworth 16.30% (4) 12.50% 17.31% 1982 Exxon 3.60% (4) 21.40% 19.53% 1988 Primerica 16.70% (3) 16.80% 24.32% 1998 Exxon* 20.00% (1) 28.70% 15.95% * = only stock not also selected by BTD Average Return 11.58% 20.44% 20.02%Including the 11 similar BSP stocks in our database, here's the summary:
Ave.
Total # # (%) > S&P(%) Return S&P*
BSP stocks: 11 10 (91%) 8.3% 25.5%
BTD/Foolish Four: 13 12 (92%) 9.2% 21.1%
Both: 24 22 (92%) 8.8%
*Average (mean) is based only on years studied.
So, although the BSP and Dow Dividend approaches have simply crushed Mr. S&P for many years, we seemed to have found a subset of stocks that loses out to the S&P 500 over 90% of the time. Leaving them out because they don't fit our rationale would be the logical and right thing to do -- it's nice to see that it works in our favor as well.
Don't forget that heretofore we've only been talking about the performance of high-yielding Dow and BSP stocks that have split recently. Next week we'll look at all Dow stocks, to explore this phenomenon further. We will also explore why there are fewer split stocks selected by the Foolish Four's RP formula. Could this be one of the reasons why the RP has performed better? Also note that there were 13 Dow stocks that split versus 11 S&P stocks -- but the Dow spreadsheet covers 38 years vs. the BSP's backtest of just 12 years. Could the relative abundance of post split stocks in the BSP account for some of the difference between how the BSP has performed vs. the Foolish Four? Questions, questions!
Finally, what are the current Dow 30 stocks that have split within the past year? That we can answer now. There are eight in total, but only one is currently in the top 10 by RP rankings. The honor belongs to AT&T <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: T)") else Response.Write("(NYSE: T)") end if %>, which split on 4/16/99. The original Ma Bell isn't doing too well this year, either -- trailing the S&P 500 by about 15%.
[Editor's Note: Following are the returns of a "paper" Beating the S&P portfolio. The stocks were selected December 31, 1998, and "purchased" in equal dollar amounts to be "held" for one year. To see a list of stocks for portfolios starting now, see Today's Stock Lists. Note that the stock split change has not yet been incorporated into this format.]
Beating the S&P year-to-date returns (as of 08-31-99):
Schlumberger <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: SLB)") else Response.Write("(NYSE: SLB)") end if %> +46.8%
Kimberly-Clark <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: KB)") else Response.Write("(NYSE: KB)") end if %> +3.0%
Campbell Soup <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: CPB)") else Response.Write("(NYSE: CPB)") end if %> -21.3%
Ford Motor Co. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: F)") else Response.Write("(NYSE: F)") end if %> -10.6%
Bank of America <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: BAC)") else Response.Write("(NYSE: BAC)") end if %> +3.2%
Beating the S&P +4.2%
Standard & Poor's 500 Index +9.9%
Compound Annual Growth Rate from 1-2-87:
Beating the S&P +25.1%
S&P 500 +17.6%
$10,000 invested on 1-2-87 now equals:
Beating the S&P $171,000
S&P 500 $78,200