In 1991, a 44-year-old American financier published a stock-picking theory that grabbed the attention of investors around the world.
His name was Michael B. O’Higgins and his Dogs of the Dow idea was simple – invest in the ten highest-yielding stocks in the American Dow index, check that your portfolio is up to date every year and you should end up with stocks that pay generous dividends and increase in price over time as well.
Midas picked up the theme 20 years ago and we have been revisiting it on and off ever since. Instead of selecting stocks from the Dow, however, we focus on the FTSE100 index, which comprises Britain’s largest listed companies. Over the past two decades, the Dogs of the Footsie have stumbled at times, with share prices falling from one period to the next. But they have undoubtedly delivered consistently high dividend yields, which has been particularly important in recent years, when saving rates have been at rock bottom.
Solid foundations: Over the past two decades, the Dogs of the Footsie have stumbled at times, but they have undoubtedly delivered consistently high dividend yields
When Midas last looked at the Dogs, it was the summer of 2020. The UK had emerged from lockdown, the stock market was beginning to recover from springtime lows and companies were starting to feel more confident.
Back then, our ten Dogs were dominated by financial firms – M&G, Aviva, Standard Life Aberdeen, Legal & General and Phoenix Group. Cigarette-makers Imperial Brands and BAT were also on the list, along with Vodafone, BP and Russian steelmaker Evraz. The yields ranged from Imperial at 11 per cent to Phoenix at 6.5 per cent and the average across the ten was 7.75 per cent.
Today, the picture is rather different. M&G, Aviva and Phoenix are still in the pack, as is Abrdn, formerly known as Standard Life Aberdeen. But they are joined by a trio of housebuilders, Persimmon, Barratt Developments and Taylor Wimpey, as well as the insurer Admiral Group and mining giants, Rio Tinto and Glencore.
Notably too, yields have shot up. Rio Tinto is yielding an extraordinary 14 per cent, the average yield is over 9.5 per cent and even the lowest yielder, Admiral, is offering a hefty 7.7 per cent return.
What is behind the big rise in payouts?
Dividend yields are simple to calculate. You just divide the next forecast dividend by the share price and turn that into a percentage. Normally, very high yields arise for one of three reasons. Sometimes, shares have recently plummeted in value and, as they fall, the yield rises. Sometimes, high yields are a clue that market watchers believe forecast dividends are unrealistic and likely to be cut. And sometimes, high yields come about because firms have plenty of money on their balance sheet and want to reward shareholders.
This summer, all three reasons have a part to play.
Take the housebuilders. Persimmon has slumped more than 35 per cent in the past 12 months, while Barratt is off by almost a third and Taylor Wimpey is 27 per cent lower than it was last summer. But all three are expected to increase or at least maintain dividends this year, so Persimmon is yielding more than 12 per cent, Taylor Wimpey is hovering around 8.5 per cent and Barratt is not far behind.
The sharp share price declines reflect widespread fears that the housing market is heading for a fall. Yet housebuilders remain confident and the property market is very different than it was during the last downturn, in 2008. Not only had prices been rising much faster back then, but banks were handing out mortgages to virtually everyone who wanted one. According to one report, half the mortgages in 2007 were signed off without would-be property owners needing to offer any evidence of income. Today, that figure is estimated at 0.3 per cent. Many mortgages are on fixed rates these days as well, so they are not exposed to interest rate rises for now.
Importantly too, housebuilders are far more financially robust than last time round so they are less likely to panic if the market gets tougher. And demand should hold up because the UK desperately needs more homes.
All of which may mean that recent share price falls are overdone and that dividend payments are less vulnerable than doomsayers believe.
Veteran analyst Charlie Campbell of the broker Liberum suggests our trio of housebuilding Dogs will at least maintain their dividends and should increase them slowly over time.
So could these healthy dividends be here to stay?
Rio Tinto’s yield has also shot up as its share price has slumped. At the beginning of 2021, Rio’s shares topped £65 and even in January of this year, the price was flirting with £60. Today, the stock is below £50, sending the yield to an eye-watering 14 per cent.
Rio Tinto is one of the largest mining companies in the world, with a particular emphasis on iron ore, aluminium and copper. These commodities surged in value last year but they have fallen sharply in recent weeks amid growing fears of an imminent global recession and a consequent slump in demand for industrial metals. There is little doubt that Rio’s revenues will be affected by this if business activity slows down and analysts do anticipate a lower dividend in 2023 than they do this year. However, the firm has a stated policy to pay out decent dividends and long-term prospects are promising.
Countries across the world have pledged to spend money on infrastructure, and that means the longer term trend is demand for metal is likely to increase. The transition from fossil fuels to renewable energy also requires huge amounts of metal, for everything from wind turbines to electric car batteries. Yet supplies are constrained as miners have been careful not to overspend on exploration in recent years. That suggests that metal prices should prove resilient over the next decade even if they suffer in the short term.
The same logic applies to Glencore even though it is rather different from Rio – and most other miners too. The group is the world’s largest producer of seaborne coal, which has surged back into fashion since the invasion of Ukraine sent governments scurrying for alternatives to Russian oil and gas. Glencore has a large marketing arm too, shipping metals around the world, not just its own stock but that of other companies too. And it can boast a green angle, despite its coal business.
The group is a key producer of metals such as copper and zinc and it is big in cobalt too, which is a critical constituent of lithium-ion batteries. Burnishing those environmental credentials further, Glencore runs a major recycling business, picking up scrap metal from big manufacturers and turning it back into usable material.
All in all, analysts are far more optimistic about this business than most of its peers. The stock is yielding more than 9 per cent, reflecting optimism about this year’s dividend, but the shares are in a good position too, having risen more than 40 per cent since last summer.
Our financial Dogs are faring much less well. When fears about economic growth hit the market, firms involved in managing people’s money are invariably caught up in the turmoil. So it has proved this time. Abrdn shares have been hardest hit but M&G has also suffered. Both stocks were already big yielders two years ago. They still are. But their dividends could come under threat if stock markets take a serious tumble in the coming months.
Looking back, the stock market has been on something of a rollercoaster ride since coronavirus swept the world. In early 2020, the FTSE100 index was around 7500. It plunged in the spring and was at 6090 when Midas last looked at the Dogs. The index then recovered, but a skittish few weeks have taken their toll and the index closed last week at just over 7200.
Plummeting confidence has not left our Dogs immune. We invested a nominal £10,000 into our portfolio of Dogs back in 2012. A decade later, the shares are worth £13,003. It is a far from sparkling performance but, if that same £10,000 had been invested in the FTSE100, it would be worth just £11,922 today. Plus, investors have been rewarded with consistent dividends for most of that time. And if they reinvested those dividends each year, returns would be significantly higher. It is not hard to see why O’Higgins’ theory remains attractive more than 30 years after he first unleashed it on the world.
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