Dogging The Dow And S&P: The ETF Approach

 |  Includes: DDM, DIA, DOD, IVV, IYJ, SPY, SSO, VOO
by: Joseph P. Porter

For those readers who are not familiar with my "dogging the markets" experiment, since January 1, 2013, I have been tracking the performance of four portfolios, two of which are based on the "Dog" strategy (one consisting of the ten companies that offered the highest dividend yields in the Dow Jones 30 Industrials ("the Dow," "the DJIA") and one made up of the ten companies in the S&P 500 ("the S&P,")that had the highest yields in that index), and two based on my own PIC strategy (one covering the Dow and one covering the S&P 500). You can check the progress of the experiment as of August 10, 2013 here as well as checking weekly progress reports on my Instablog.

Both the dog strategy and the PIC strategy are attempts to construct profitable portfolios from the two indexes. There are other ways of accomplishing this - specifically, through the use of exchange-traded funds (or ETFs). As it so happens, I have been keeping track of the performances of several ETFs that are based on the Dow and the S&P 500, and I thought it might be interesting to take a look at them and compare their performance to the index they track, and to the Dog and PIC portfolios. These ETFs have been chosen at random, the principle criteria being that (1) they track either the DJIA or the S&P 500 index, and (2) one ETF per index per issuer (ProShares, for instance, offers five for each index, each one tracking its index in a particular way).

[Note: An ETF may be a more economical vehicle for investing in a portfolio, in that you would pay only one transaction fee to buy or sell the ETF (presuming you bought the ETF for the long term), while the Dog and PIC portfolios would involve paying for 10 transactions, or - really - 20 each year, since both strategies involve readjusting the portfolio each year to balance holdings and accommodate changes in member companies. Actual transaction costs would depend upon your broker.]

The Dow ETFs

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For sake of comparison, the Dow's performance through August 29, 2013, was 13.02%; that of the Dogs of the Dow was 16.75%; that of the PICs of the Dow was 13.77%. Here is a chart comparing their performances year-to-date:

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The SPDR Dow Jones Industrial Average ETF (NYSEARCA:DIA) (often called the "Diamond ETF") is the only one of the four ETFs in the list that covers all and only the Dow Jones 30 Industrials, and may be the ETF that most closely tracks the index.

The iShares U.S. Industrials ETF (NYSEARCA:IYJ) actually has more than 220 holdings (clearly more than the Dow's 30 companies), but is structured to follow the Dow index; that it has a broader range of holdings no doubt accounts for its variability from the index itself.

ELEMENTS Dow Jones High Yield Select 10 ETN (NYSEARCA:DOD) is the only exchange-traded instrument that actually follows the Dogs of the Dow strategy, realigning its 10 holdings annually on December 31 to reflect the new Dogs. Note that DOD is an ETN, rather than an ETF, which may affect taxation, liquidity and maturity issues - speak with your broker/tax specialist about how this may affect your portfolio.

The ProShares Ultra Dow 30 ETF (NYSEARCA:DDM) is one of the five DJIA ETFs ProShares offers. The "Ultra" ETF seeks to double the daily performance of the DJIA. As can be seen from the graph, DDM's current performance is very nice, but it is an ETF one ought to have in one's portfolio only when one is sure that the Dow is going to be moving up, as the doubling applies to losses as well as increases - note that the DDM line seems to react much more pronouncedly to the direction of the Dow and the other ETFs. DDM is a leveraged ETF.


In addition to the performance of a company's stock price, one ought to consider the dividends one receives from one's holdings - especially in the case of the Dogs, which are chosen specifically on the basis of their dividend yield. On the basis of what has been paid through Q2, and projecting that through the dividends for Q3 and Q4, the Dogs of the Dow are on a pace to realize a dividend yield for 2013 of 4.11%, while the PIC portfolio is on a pace to yield 3.45% in dividends (calculated using a cost basis of $10,000). Both portfolios, then, have yields significantly higher than those of the ETFs. Also note that DOD does not pay dividends.

The S&P 500 ETFs

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In comparison, the S&P's performance through August 29, 2013, was 14.50%; that of the Dogs of the S&P was 9.81%; that of the PICs of the S&P was 14.92%. Here is a chart comparing their performances year-to-date:

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As might be expected from the graph above, there is very little difference between three of the ETFs: SPDR S&P 500 ETF (NYSEARCA:SPY), Core S&P 500 ETF (NYSEARCA:IVV) and Vanguard S&P 500 ETF (NYSEARCA:VOO); indeed, all are characterized as based on the performance of "large cap U.S. equities." The differences between the three are in the number of holdings in each (SPY has 501, IVV has 503 and VOO has 508 - numbers are approximate).

The ProShares Ultra S&P 500 ETF (NYSEARCA:SSO), like its Dow cousin DDM, seeks to double the daily performance of its index. The same considerations apply here as were outlined in the discussion of DDM - this is not an ETF to have if you are not confident that the S&P is going to be going up. This is, as well, a leveraged ETF.


Again, on the basis of what has been paid through Q2, and projecting that through the dividends for Q3 and Q4, the Dogs of the S&P 500 are on a pace to realize an impressive dividend yield for 2013 of 7.35%, while the PIC portfolio is on a pace to yield 3.42% in dividends (again, calculated using a cost basis of $10,000). Both portfolios offer yields significantly higher than those of the ETFs following the S&P.


The purpose of this article has been to show that there are ways of securing "index-or-better" performance from ETFs, thereby avoiding the task of adjusting one's index-oriented portfolio. While the performance of the self-managed portfolio may be better than that of most of the ETFs, one does manage to minimize transaction costs with an ETF, although ETFs involve expenses that reduce your ultimate return - you pay for the luxury of having someone else manage the portfolio for you.

That being said, you also must, at some point, account for the transaction costs for the self-managed portfolio. Assuming a transaction cost of $7.00 per trade, maintaining either a Dog- or PIC- style portfolio would cost $140.00 per year (10 buys and 10 sells each year); that is sufficient to reduce the yield of the PIC of the S&P 500 to 1.71% from 3.42%. Thus, even though the PIC's performance just squeezes ahead of most of the S&P ETFs, once dividends are included the ETFs may well fare better. But even phenomenal dividend yields mean little when the performance of the portfolio is lacking, as with the Dogs of the S&P.

Finally, where to the "Ultra" ETFs fit in? The expenses incurred in maintaining a leveraged ETF cut severely into the dividend yield, but the ETFs perform significantly better than non-leveraged ETFs. Or do they? The Ultra ETFs are designed to double the one-day performance of their respective indexes, and may do so, but they double the index performance whether it is up or down. Thus, for some, the potential volatility of the leveraged ETF makes it a better holding for the day trader, rather than as a long-term strategy.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Disclaimer: Some of the information above is based on projections that may or may not be realized. Before investing in any of the instruments mentioned herein, or any instruments to which this article might apply, be sure to perform your due diligence; you should consult your broker about the accuracy of any claim made in this article.

There is a wealth of information to be had on ETF investing via ETF Database; their compilation of data on ETFs is easily accessible and was valuable in completing this article.