Dogs of the Footsie: how our investment strategy performed in a challenging 2019

The Dogs lost some bite last year: will the 2020 line-up of high-yielding blue-chips fare any better?

- Take me straight to: the 10 Dogs of the Footsie shares for 2020
- More articles on shares, including 10 shares to deliver a £10,000 annual income in 2020

The year just gone was characterised by geopolitical instability and market volatility, creating a difficult environment for investors. But a post-election bounce and a relief rally as a Brexit deal was finally sealed meant the FTSE 100 index delivered a total return of 9.4%. In contrast, our high-yielding Dogs portfolio lagged significantly and produced a negative total return of -1.9% over the 12 months to 31 January 2020. In share price terms, the FTSE 100 gained 4.5% over the year, while the Dogs on average fell -9.6%.

It’s a disappointing result, but we should note that over the long term the Dogs are still the ones to beat. On a 10-year view, the portfolio has significantly outperformed the FTSE 100 to deliver a total return of 105.4% versus 73.8% from the index.

Focus on yield

A reminder of what the Dogs of the Footsie strategy is all about: you simply build a portfolio of the 10 highest-yielding FTSE 100 stocks, put equal amounts of money in each and hold them for a year. You then repeat the process the following year with the new highest yielders. You can run this data yourself easily using services such as interactive investor, SharePad or Digital Look, or find dividend yields using the research available on your share trading platform.

The Dogs of the Dow strategy became popular among US investors in the 1990s, when Wall Street veteran Michael O’Higgins included it in his book Beating the Dow. The Dogs of the Footsie is simply an adaptation for UK investors.

2019 a challenging year for our Dogs

Name Price return (%) Total return (%)
Centrica -37.8 -30.5
Marks & Spencer -36.3 -32.3
BT -30.8 -24.1
Evraz -29.2 -17.3
Imperial Brands -22.7 -14.8
Aviva -3.7 3.5
Vodafone 7.7 14.0
WPP 8.6 15.5
Standard Life Aberdeen 19.8 28.4
Persimmon 28.5 38.4
     
Average -9.6 -1.9
FTSE 100 4.5 9.4

Source: SharePad, as at 31 January 2020

Banking on a bounce

The rationale behind this approach is that a high dividend yield tends to point to a company that is unloved by the market. This is often reflected in a depressed share price as investors unjustly punish out-of-favour companies, those going through challenging periods or those in sectors facing structural headwinds. In many cases, the share price will have fallen further than is warranted by a company’s fundamentals, opening up an opportunity for a significant bounce. In the long run, if investors can hold their nerve, they can reap the benefits of high dividend yields while waiting for share prices to catch up with the wider market.

While the Dogs of the Footsie is a simple buy-and-hold investment strategy, it has been very successful for long-term investors. Money Observer first began tracking the Dogs in 2001, and the portfolio has beaten the benchmark in 12 of the past 19 years in total return terms.

Since 2001, the average annual total return from the Dogs portfolio has been 12.2%, compared with 5.9% from the FTSE 100, so more than double the index return, and getting on for triple if you look just at share price gains. Even though 2019 was a very tough year for our Dogs, looking at them individually, four out of the 10 stocks still managed to outperform the FTSE 100 in terms of both total return and share price performance.

Hobbled by pressure on payouts

Overall though, last year’s returns were disappointing, owing to a number of stock-specific factors: some of our Dogs saw their share prices battered as  investors worried about profit warnings and the threat of future dividend cuts.

But the spectre of a dividend cut alone is not enough to remove a Dog from the portfolio, even if the consensus among analysts is that the company’s yield is not sustainable. Companies only fall out of the portfolio if they officially announce a dividend cut. Several of our 2019 Dogs  have been the subject of speculation about their future dividend payouts and whether these might come under pressure, given falling earnings per share or an inability to generate enough cash to reward shareholders.

However, even our indebted Dogs and those with thin dividend cover (the number of times a company’s earnings cover its dividend) such as Evraz have not yet cut their payouts. So which companies slashed their dividends in 2019?

Vodafone was the most notable. It chopped its dividend payout by 40% in May, its first cut in nearly 20 years. This pushed it out of the ranks of the FTSE 100’s top 10 dividend payers. Retailer Marks & Spencer cut its dividend by the same amount after a decade of consecutive payouts. The high street stalwart reported slumping profits as clothing and homeware sales continued to fall, and it also set out a rights issue and a plan to close 110 stores. In September it dropped out of the FTSE 100 when its market value fell below the threshold for inclusion among the UK’s 100 largest companies – having been a constituent since the index launched in 1984. The retailer’s share price dived by 36% over the course of a torrid year.

Broadly, the reason the Dogs have limped over the line this year is that five out of 10 stocks in the portfolio suffered share price falls of more than 20% over the year to 31 January 2020. Three of them – Centrica, M&S and BT – endured falls of more than 30%.

Dogs’ long-term performance

  3 years 5 years 10 years
Price return (%)      
Dogs -12.3 4.3 38.2
FTSE 100 4.4 11.7 33.5
Total return (%)      
Dogs 8.2 38.0 105.4
FTSE 100 17.5 32.9 73.8

Source: SharePad, as at 31 January 2020

Gains insufficient to nullify hefty falls

The positive returns from the rest of the portfolio were just not enough to offset these hefty drops. Gains here were fairly modest in share price terms, with a couple of notable exceptions. On an individual company basis, Persimmon was the strongest runner. It produced a total return of close to 40% and gained almost 30% in share price terms. Standard Life Aberdeen also ran well: it delivered a share price return of almost 20%, and 28% with dividends included.

Also worth a mention is media and advertising agency WPP. It doesn’t feature in our line-up for 2020, as its yield is now just over 6%, so it has narrowly lost out to other high-yielding stocks. After a tough few years of declining profits as it struggled to keep pace with a changing sector and dealt with the exit of its founder Martin Sorrell, its shares recovered to deliver more than 8% in the year to January, 15.5% with dividends included.

Looking ahead to the next 12 months, political upheaval and macroeconomic factors will continue to drive markets. Tensions between the US and Iran, the spread of the coronavirus and UK/EU trade negotiation tribulation could all make it harder for our Dogs to outperform.

That said, management teams have largely stuck to their commitments to shareholders and avoided cutting their dividends, even where it has looked a stretch to keep paying out. With some of the highest-yielding FTSE 100 names reviewing their strategies, cutting costs and focusing on core business areas, perhaps the Dogs of the Footsie will run a better race this year.

Dogs vs the FTSE 100 index: discrete annual performance over the past 19 years

Table showing the Dogs of the Footsie strategy vs Footsie 100 over 19 years

Source: SharePad. Data for each year covers 12 months to 31 Jan 2019

 

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