Can 'Dogs of the Dow' Shine Again in 2011?

Editor's note: As part of our partnership with PBS's Nightly Business Report, TheStreet's David Peltier appeared on NBR to share his favorite "Dogs of the Dow" stocks for 2011. (Watch video and read transcript.)

NEW YORK (TheStreet) -- Companies are carrying record levels of cash into the new year, and I expect that dividends will continue to increase in 2011. This would continue a trend from the previous year, where Standard & Poor's calculated that dividend increases were up 46% through the first three quarters of 2010.

One way for investors to track the performance of dividend stocks is the "Dogs of the Dow" index, which is a strategy that focuses on the 10 highest-yielding stocks in the Dow Jones Industrial Average at the beginning of the year.

This approach doesn't always generate a higher return than the overall Dow 30, however; and in fact it failed to do so in five of the six years between 2004 and 2009. But in 2010, buying the Dogs of the Dow worked like a charm.
Word on the Street

The Dogs, which consisted of AT&T ( T), Verizon ( VZ), Dupont ( DD), Kraft ( KFT), Merck ( MRK), Chevron ( CVX), McDonald's ( MCD), Pfizer ( PFE), Home Depot ( HD) and Boeing ( BA), gained an average of 15.5% in 2010. This doesn't even include the fact that these names yielded an average of 4.5% at the beginning of the year.

On the other hand, the other 20 stocks in the Dow generated an average return of just 6.1% for the year. In addition, of the five stocks yielding less than 1% at the beginning of the year, four fell in 2010; while only three of the other 25 names posted a loss. Overall, the index gained 11.02% for the year.

Looking ahead to 2011, Home Depot and Boeing are being replaced as Dogs by Johnson & Johnson ( JNJ) and Intel ( INTC). And despite the mixed track record of the Dogs of the Dow strategy in recent years, I believe that investors can perform well this year by focusing on the high-yielding companies in the Dow 30 that can raise their dividends in 2011.

And Verizon should be at the top of that list. The company's 5.4% dividend yield is highest in the Dow Jones Industrial Average except for AT&T. And even though the stock closed Monday at a 3-year high of $36.43, I believe that Verizon can continue to outperform in 2011.

The company just boosted its quarterly payout in September, to $0.4875 a share, and will likely do so again next fall. Verizon has a solid balance sheet and generates sufficient cash flow to cover its dividend.

Another high-yielding Dow Dog that I like for 2011 is Intel. The stock fell in December while the rest of the market pushed higher, but I believe that the company holds value at 10x expected full-year earnings. Management boosted the quarterly dividend to $0.18 a share last November, and Intel's 3.45% dividend yield is higher than the benchmark 10-year Treasury note.

The company has pricing power and can cover the payout about 3x with its annual profits. In addition, Intel has over $3 a share of net cash on the balance sheet.

Buying a stock with the highest dividend yield doesn't always generate a solid return, but there are some good values among the "Dogs of the Dow." I believe that investors will be best served by the names that can afford to boost their payout.

David Peltier is a research associate at TheStreet.com. In keeping with TSC's editorial policy, he doesn't own or short individual stocks. He also doesn't invest in hedge funds or other private investment partnerships. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. Peltier appreciates your feedback; click here to send him an email.

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