The Final 2016 Dogs Of The Dow Performance And the New 2017 Dow Dog Changes

The 20.5% return for the 2016 Dogs of the Dow exceeded the performance of both the Dow Jones Industrial Average and the S&P 500 Index in 2016. The Dow Dogs returned 20.5% versus 16.4% for the Dow Index and 12.0% for the S&P 500 Index. The best performer of the Dogs was Caterpillar (CAT) up 42.2% with the weakest performer being Pfizer up only 4.5%.

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For the coming year, 2017, two of the existing Dow Dogs, Procter & Gamble (PG) and Wal Mart (WMT) will be replaced by Boeing (BA) and Coca-Cola (KO). Boeing has a dividend yield of 3.65% and Coke has a dividend yield of 3.38%.

Most Read Articles From Our Blog In 2016

Below is a list of the most read articles on our firm's blog in 2016. Our generally bullish view on the equity market for 2016 proved rewarding for our clients. We stuck to our bullish call in January when the market was down 8% as noted in the second article link below. When the market began to sell off again into late May, we highlighted our view that equity market headwinds were positioned to subside as noted in the first article link below. Our year-end Investor Letter will be released on Tuesday and will contain additional thoughts on 2016, but more importantly, our outlook for 2017.

To our clients and readers, we wish all of you a Healthy and Prosperous New Year.

Equity Market Headwinds Positioned To Subside - May 20, 2016

Maximum Fear May Be Near - January 15, 2016

Oil And Equity Price Trend Conundrum - August 2, 2016

Is The Value Style Outperformance Sustainable? - March 12, 2016

History Suggests Record Equity Market Highs Do Not Mean Investors Should Sell Stocks - August 11, 2016

Tobin's Q Below 1.0 In Q3 2015 - January 2, 2016

Jobs Were The Missing Link? - August 5, 2016

Value Stock Outperformance May Indicate Stronger Economy Ahead - July 17, 2016

Another Month Of Equity Outflows - September 2, 2016

Bullish Investor Sentiment Lower Than Level Reached In 2009 - May 26, 2016

The FANG Basket Of Stocks Gets Derailed - February 28, 2016

Recent Returns Remain Far Below the Longer Term Average

It wasn't until 2013 that the S&P 500 Index broke out 17 year time frame the annualized return (price only) for the S&P 500 Index is approximately 2.59%.

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Has Broadly Improved Sentiment Pushed The Equity Market To An Extreme?

The market's advance since the presidential election has certainly been remarkable. Much of the gain is being attributed to anticipated policies being proposed by a new Trump administration. Obviously none of the proposed policies have been put in place as of yet, but the market is already weighing in with positive expectations. A common thought is whether or not the market has gotten ahead of itself. Given the rapid rise in such a short time period, the market certainly seems to be ahead of itself. However, from a return standpoint, it may not be as can but seen in the below chart. Over the last two years the market's return totals just over 8% and all of the return has come since the election. This makes the average return over the last two years only about 4%.

h/t: Santiago Capital

Much of the positive market sentiment has been driven by a strong improvement in various consumer and business sentiment indicators. Below are a couple of charts showing the spike in a number of sentiment indicators.

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François Trahan Bearish On Stocks In 2017

Whether one is bullish or bearish on equities at any particular time, it is important to read and evaluate opinions that are contrary to ones own. In a recent WealthTrack interview Trahan, voted the #1 portfolio strategist in 10 out of the last 11 years by Institutional Investor Magazine, conducted with Consuelo Mack, François Trahan provides his reasoning for his fairly bearish view on stocks in 2017.

He states the BREXIT inspired pullback was a gift for equity investors. He believes the recent market run up has been predicated on the positive economic data reported throughout the summer months. He does agree the move higher after the election is partly based on anticipated Trump policies. However, he believes much of what a Trump administration is proposing will not work its way into the economy right away, i.e., tax cuts, infrastructure spending, etc. I would say we agree on this as well.

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Investors May Want to Look At Sectors That Worked In The 1980's

Subsequent to the election last month I published a post suggesting the equity market going forward was beginning to resemble the bull market of the 1950's and 1980's, A decade is a long time and market leadership will rotate in and out of sectors based on the business cycle. In that earlier post I noted the potential commonality to the current market compared to those prior decades related to policy decisions coming out of Washington, D.C. In the 1950's the Gross National Product in the U.S. more than double from 1945 to 1960. Government spending in the 1950's was targeted at construction of the interstate highway system, building of schools and an increase in military spending. In the 1980's President Reagan's policies focused on reducing the tax burden on Americans, lowering government regulation and shrinking government itself. President Elect Donald Trump also projects to implement similar policies, i.e., reduce regulation, shrink the government, increase spending on infrastructure and lower taxes. For investors the question to answer is what market segments worked then and might these same sectors outperform early in a Trump administration.

The chart below shows the sector return for the period following the early 1980's recession through 1989. For the entire time period, staples, health care and utilities outperformed with technology being the laggard. I include the Fed Funds target rate for reference since the current Fed is likley of the mind to continue its monetary tightening.

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Emerging Markets, The Dollar and Interest Rates

This morning I published a few tweets and charts on our Twitter site reviewing emerging market equity performance and the impact US Dollar strength has on emerging market equity performance. Additionally, interest rates influence US Dollar movement and rising interest rates tend to result in a stronger Dollar, all else being equal. Below are those tweets.

Ones view on the direction of the US Dollar critical to emerging market performance. pic.twitter.com/HlPPlJq4D4

— HORANCapitalAdvisors (@HORANCapitalAdv) December 10, 2016

@HORANCapitalAdv At least another year to run on US Dollar strength? pic.twitter.com/tiq4mlIaiH

— HORANCapitalAdvisors (@HORANCapitalAdv) December 10, 2016

@HORANCapitalAdv And higher interest rates lead to stronger US Dollar. pic.twitter.com/PDKZPAuF0m

— HORANCapitalAdvisors (@HORANCapitalAdv) December 10, 2016

@HORANCapitalAdv End of bond bull market? Interest rate curve steepening. Where to invest then? Equity market seems to be saying US stocks. pic.twitter.com/d3IA9cm503

— HORANCapitalAdvisors (@HORANCapitalAdv) December 10, 2016

@HORANCapitalAdv but we are long $HEDJ. Contrarian play? Chart courtesy of @InvstSideKick pic.twitter.com/2hgb8xD5NX

— HORANCapitalAdvisors (@HORANCapitalAdv) December 10, 2016

I frequently provide market relevant tweets throughout the week so feel free to follow our firm on Twitter @HORANCapitalAdv. At the same time, readers may want to follow our broader firm, HORAN on twitter as well @HORAN1948. For over 65 years HORAN has created plans to control health care costs, protect your wealth and insure your life. But the end game for all that we do at HORAN is more than a set of plans. We believe good health and true wealth create a better quality of life for our clients and their families.

Dow Dogs: The Pursuit Of Yield Coming To An End

With the passing of the election last month, expectations in place before the election seem to have been turned on its head. Dire forecast were anticipated if Trump were to somehow pull out a win. Fast forward to a month past election day and current market sentiment is far from what most expected and the equity market is reflecting this in its performance with the S&P 500 Index up 8.4% from the 11/4/2016 Friday close. The positive equity market performance is showing up in sentiment measures as well. Today's release of the University of Michigan's Consumer Sentiment Survey also reflected an improvement in sentiment. Econoday noted,

"Post-election confidence continues to build, lifting consumer sentiment by more than 4 points to a 98.0 level that hits the very outside of the Econoday range and is 1 tenth away from the index's recovery peak hit last year. Consumers specifically cite expectations of new economic policies as the biggest positive."

From a market perspective investors appear to be rotating out of the more defensive and income producing stocks (and bonds) into stocks that will participate in an environment of faster economic growth. Top performing sectors in the S&P 500 Index since the election are, financials (+21.9%), industrials (+13.3%), energy (+13.0%) with the laggards being utilities (0%), staples (+.8%) and REITs (+3.4%). 

This rotation out of the defensive equities is showing up in the lagging performance of the Dow Dogs. The Dogs of the Dow strategy is one where investors select the ten stocks that have the highest dividend yield from the stocks in the Dow Jones Industrial Index after the close of business on the last trading day of the year. Once the ten stocks are determined, an investor invests an equal dollar amount in each of the ten stocks and holds them for the entire next year. As can be seen in the below table, the average return of the Dow Dogs over the last month equals 1.9% versus 4.7% for the SPDR S&P 500 ETF and 6.6% for the S&P Dow Jones Industrials Index itself.

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Whether or not we do or do not view favorably the outcome of the election, as investment managers, we continue to position our clients in sectors and market segments that might outperform under a Trump administration. This led to our positioning of client portfolios into stocks and sectors that might outperform under a faster economic growth environment.

Small Cap Stocks No Longer Cheap Relative To Large Caps

Subsequent to the election, the equity 'risk on' trade has been most evident in small company stocks with the S&P 600 Small Cap Index returning 13.0% since 11/4 versus a return of 5.4% for the S&P 500 Index.

In fact, small cap stocks have been outperforming large caps since the market pullback in February of this year. Benefiting the return of small cap stocks is the fact, based on their respective P/Es, they were cheaper than large caps on a relative basis as can be seen in the below chart. However, this spike in return over the last four weeks has put the relative valuation of small caps below the average relative value going back to 2004.

Given small caps burst of outperformance over the last four weeks, a period of near term underperformance would not be surprising and would actually be healthy. One factor likely at play though is the anticipation that small cap earnings will begin to accelerate as occurring in the large cap space. The third quarter will market the end of the earnings recession with S&P 500 Q3 2016 earnings expected to be up 4.2% versus Q3 2015. Looking ahead, Thomson Reuters I/B/E/S is estimating earnings growth rates for the S&P 500 Index for Q4 2016 through Q3 2017 at 6.2%, 14.0%, 11.9%, and 9.8% respectively. This improvement in the earnings picture may serve as a floor against an extended equity market pullback.