The average mutual fund manager has a portfolio turnover of 90% a year, with some aggressive growth and momentum funds turning over their entire asset base several times annually. If you wonder why some traders have patches on the elbows of their sport jackets, you can now guess the reason.

What these three low price-to-value strategies can do for you then is to provide high enough returns over time so that only a minimum of trading is required, thereby reducing, perhaps substantially, these costs and enhancing your portfolio retums. This leads us to Rule 16:

RULE 16

Avoid unnecessary trading. The costs can significantly lower your returns over time. Low price-to-value strategies provide well above market returns for years, and are an excellent means of eliminating excessive transaction costs.

The three major strategies show markedly superior retums for "worst" stocks, and painfully lower retums for best, while avoiding high trading costs. Finally, since yield is a very important factor for many readers, lets look at the high dividend strategy.

Strategy # 4: Price-to-Dividend

Figure 8-4 provides the annual retums of price-to-dividend strategies. The method and period used are the same as those for the previous three strategies. As the chart indicates, however, high yielding stocks perform somewhat differently from the previous contrarian strategies. The highest yielding stocks outperform the market by 1.2%, and the stocks with low or no yield by nearly 4% annually.

However, the composition ofthe retums is different. Almost half of the 16.1% annual return of the highest yielding group comes from the yield itself Moreover, appreciation, at 8.2% annually over the 27-year period, is lower than for any of the other "worst" groupings or for the market. Buying stocks with high dividend yields beats the market but provides lower total retums than the previous three contrarian strategies.

Once again a "buy-and-hold" strategy works well this time for the lowest price-to-dividend group. Not only do you continue to beat the market over time with this method, but your retums actually increase with a longer holding period.* Remember, the longer you hold your

* With dividends reinvested.

Figure 8-4

Price/Dividends

Dividends, Appreciation & Total Retums January 1, 1970 - December 31, 1996

20% 15% 10%

§ 5%

High

Market

P/D Quintiles

□ Dividend Retum □ Appreciation Total Return

portfolio, the lower the transaction costs. As important, if you depend on high income, dividends are rising rapidly through the 27-year period. The average yield, as we saw in Figure 8-4, was 8% annually for the 27 years ofthe study. Also of note is that this high dividend rate is increasing with time. At the end of 8 years, the dividend rate increased 72%. A $10,000 portfolio originally paying $800 a year now would pay $1,503 dollars 8 years later, before their reinvestment, which, of course, would make the overall portfolio return higher. At the end of 8 years, keeping portfolios intact, a $10,000 portfolio would be up 230% versus 203% for the market.

For investors who require income, this appears to be a far better strategy over time than owning bonds. If interest rates spike up, bond prices will go down sharply. A 30-year bond, for example, will drop 12% for every 1% increase in interest rates. With the wide fluctuations of interest rates in the past two decades, the bond market has actually been more volatile than the stock market. Buying high-yielding stocks makes

Contrarian Stock Selection: A-B-C Rules

The initial problem confronting any investor is how to select individual stocks and the number of stocks to hold in his portfolio. A few simple rules have proven their worth over the years:

RULE 17

Buy only contrarian stocks because of their superior performance characteristics.

* For a more detailed discussion of how stocks fare against bonds over time, please see chapter 13.

good sense for the yield-conscious investor. Dividends go up over time-interest payments on bonds do not.

High-yielding stocks also provide you with the best protection in a bear market, as we saw in Figure 7-5 in the previous chapter. These stocks give the dividend-oriented investor more protection of principal on the downside and provide both rising dividend income as well as capital appreciation-the latter occurs only rarely with long bonds.*

Is this a strategy for everyone? I dont think so. It works best for people who need a constant source of income. Naturally, unless you hold the stocks in a tax-free account, the income is taxable. In a tax-free account the investor is far better off using one of the other three contrarian strategies, which as we saw in Figures 8-1, 8-2, and 8-3 provide significantly higher returns than price-to-dividends.

However, what works fine in financial theory often doesnt consider investor psychology. Many investors, particularly the older generation, feel much more secure living on the dividends and keeping their capital intact. Sure they might have substantially more capital in the end using the three other higher-octane value strategies, which would require them to occasionally draw down on the principal for their living expenses. But their comfort level, as I have found, can often go down markedly. Following this strategy will not provide the optimum returns, but it will outperform the market, before deducting dividends, and make a lot of people who depend on income sleep more soundly.

Value, then, in the form of contrarian strategies, is the closest thing there is to a strategy for all seasons. Now some guidelines to help you implement contrarian strategies are in order.