American Investment Services, Inc.

Disciplined, Diversified, & Cost Effective

Aug. 2006 – Mea Culpa Altria

Over six years ago we deviated from our disciplined approach to investing when we removed Philip Morris (now Altria, ticker: MO) from our high-yield Dow investment model. We have come to regret that decision, and it is one we intend never to repeat. MO subsequently provided a total return of about 30 percent per year.

This month we are reintroducing Altria as a component of our model. Our decision to do so at this time is unrelated to anyone’s opinion regarding the firm’s fate. Though its share price has rebounded sharply since we removed MO from the model, its dividend yield has remained strong relative to the other stocks in the Dow 30. It therefore would have remained in the model; had we not abandoned MO the shares would currently account for 22 percent of the model’s total market value. Our recommended procedure for “getting back in” is found in the discussion on page 62. It is painful but instructive to review our rationale for abandoning MO.

Our model began accumulating shares in April of 1993. Over the next seven years the firm came under assault from trial lawyers and state attorneys general for health claims related to tobacco. MO subsequently suffered a series of potentially devastating decisions. Though it had yet to pay a penny in claims, the share price fell steadily, and its yield rose. Though this pattern was not untypical of firms in the model (high-yielding shares are typically distressed), MO was an extreme case. The media frenzy over big tobacco’s imminent demise was in full swing. The market, moreover, was not favoring value stocks in general; dividends were considered passé and tech stocks were the darlings of Wall Street.

We threw in the towel in March 2000, following a 15 month period when MO’s share fell from $52.25 to $20.13, and its yield rose to 9.5 percent. We reasoned that MO was different from other stocks in the model; the firm’s fate was in the hands of attorneys and juries rather than management. Given that its dividend yield was nearly three times that of the next highest yielding stock, we asserted that the only way MO would ever be sold out of the model would be “feet first” following bankruptcy or via its deletion from the Dow.

We did consider sticking with the model. We realized that with a 9.5 percent yield, if the share price were to climb by just $2 over the next twelve months, investors would enjoy a total return of nearly 20 percent. Alas, amidst the clamor from the media and “experts” predicting the demise of big tobacco this argument fell upon deaf ears and MO was jettisoned.

One year later the firm’s legal fortunes had reversed. The share price had more than doubled, to $47.26. Investors would have enjoyed a total return of over 150 percent.

In retrospect we did precisely what we tell our readers not to do. We allowed ourselves to be swept up in the emotion of the times. After months of constantly defending our holdings of MO we were all too glad to be rid of it. Instead of lashing ourselves to the mast we jumped overboard. It is a mistake we do not intend to repeat.

Also in This Issue:

Indexes, Index Funds, and Asset Allocation
HYD and Multi-Factor Investing
The Pension Protection Act of 2006
The High-Yield Dow Investment Strategy
Recent Market Statistics
The Dow-Jones Industrials Ranked by Yield
Asset Class Investment Vehicles