What are we looking for?
Picks in haven sectors in Canada for rocky times.
The screen
After a rough start to the new year, skittish investors may want to steer clear of the more cyclical sectors in the Canadian economy as the outlook becomes uncertain. This week, I've created a strategy that focuses only on consumer staples and utilities sectors and ranks stocks within these two sectors on the best combination of the following factors:
- market cap (larger companies are preferred in this strategy);
- dividend yield;
- earnings variability (which looks at the full history of each company’s reported earnings and tracks how consistent they are over time – lower scores are preferred);
- annual cash flow momentum (the latest four quarters of reported cash flow, compared against the same figure four quarters ago).
To qualify, the payout ratio on each of the stocks must be less than 80 per cent (signifying that the company is not paying a substantial part of their earnings in the form of dividends and are likely to continue to sustain their current dividend levels). Additionally, stocks must have a reasonable cash-flow-to-debt-level ratio relative to the sector to which they belong.
More about Morningstar
Morningstar Research Inc. provides independent investment research in North America, Europe, Australia and Asia. Its research tool, Morningstar CPMS, provides quantitative North American equity research and portfolio analysis to institutional clients and financial advisers. CPMS data cover more than 95 per cent of the investable North American stock market. With more than 110 equity and credit analysts, Morningstar has one of the largest independent institutional equity research teams in the world.
What we found
I used CPMS to back-test the strategy from December, 1985, to November, 2015. During this process, 10 stocks were purchased and equally weighted. Stocks would be sold if they fell outside the top 40 per cent of the ranked universe, or if the payout ratio reached greater than 100 per cent. Over this period, the strategy produced an annualized total return of 13.6 per cent while the S&P/TSX composite total return index produced 8 per cent. In the one-year period ended November, 2015, the strategy produced 12.7 per cent while the S&P/TSX composite total return fell 5.8 per cent.
As always, investors are encouraged to conduct their own independent research before purchasing any of the investments listed here.
Ian Tam, CFA, is a relationship manager for CPMS at Morningstar Research Inc.