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Best of both worlds: Looking for value and momentum stocks

What are we looking for?

A U.S. portfolio that combines the best of value and momentum – we want to invest both in stocks that are cheap and also in stocks that are rising in price.

How we did it

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Craig McGee, senior consultant at Morningstar Canada, combed through Morningstar's U.S. database for the 10 best U.S. stocks in terms of value and the 10 best in terms of earnings momentum.

The Earnings Value strategy looks for stocks trading at low price to earnings multiples. It places secondary emphasis on positive earnings growth and looks for stocks without any disappointments in the reported numbers or negative revisions to analysts' future expectations.

The Earnings Momentum strategy places significant emphasis on positive earnings surprise and positive earnings estimate revisions. Short-term technical growth factors are also used.

To ensure diversification, no one sector is allowed to make up more than 30 per cent of the total portfolio.

More about Morningstar

Morningstar Inc. provides independent investment research in North America, Europe, Australia and Asia. Its investment 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.

What we found

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Known as the CPMS Double 10 Earnings Value and Earnings Momentum Strategy, this double-barrelled approach to picking stocks has been one of Morningstar's most successful model portfolios.

Since its inception on Dec. 31, 1993, it has generated an annualized return of 17.1 per cent compared to 8.1 per cent for the S&P 500 Total Return Index over the same period. So far this quarter, it is up 5 per cent vs. 5.6 per cent for the index.

That performance comes at a price. The portfolio has a beta of 1.2, indicating that is more volatile than the overall market. It also has average annual turnover of 130 per cent, which means that on average the portfolio changes completely more than once a year. Heavy trading of that magnitude will result in considerable transaction costs.

There's no denying the track record, though. "This model may only be of interest for more active and aggressive investors but it has been impressively consistent for over 18 years," says Mr. McGee.

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About the Author

Ian McGugan is a reporter with The Globe and Mail's Report on Business and has been writing about investing, economics and business for more than 20 years. He joined the Globe and Mail in 2010. He has been executive editor of Canadian Business magazine and founding editor of MoneySense magazine. More


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