What are we looking for?
A portfolio with a clear divide between income and momentum stocks.
When selecting investments for your portfolio, investors will often search for securities that have characteristics they desire – dividends, low valuation, large market capitalization, etc. One method of achieving these chosen attributes is to apply them to your investment universe and see what remains.
Another way to consider meeting your desired investment characteristics is to split them up. For example, if you’re looking for income but also want stocks with upward momentum potential, you can consider those as two different “sleeves" – a term describing groups of stocks managed with the same style – and create portfolios to match each one.
My strategy today is constructed of two distinct sleeves: dividend growth and momentum. Each sleeve will focus on its respective style only, and then the final portfolio will be a 50/50 combination of the two. The stocks will be selected from the CPMS Canadian Universe, which today holds 703 names.
The dividend growth sleeve ranks stocks based on:
- Five-year dividend growth rate – an annualized number, higher values preferred;
- Expected dividend growth rate – difference between the expected annual dividend rate and the actual trailing dividends paid in the past four quarters, higher values preferred;
- Quarterly earnings surprise – a proprietary measure of the difference between actual and expected quarterly earnings (based on consensus analyst expectations), higher values preferred.
- The momentum sleeve ranks stocks based on:
- Quarterly earnings momentum – measured as the growth in the most recent trailing four quarters of earnings relative to the trailing four quarters’ earnings lagged by one quarter, higher values preferred;
- Quarterly earnings surprise;
- Price change from 12-month high – a momentum factor based on stock price, least-negative values are preferred.
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 120 equity and credit analysts, Morningstar has one of the largest independent institutional equity research teams in the world.
What we found
I used Morningstar CPMS to back-test this strategy from January, 2004, to January, 2019. During this process, a maximum of 10 stocks per sleeve were purchased, for a strategy maximum of 20 stocks. When sold, the positions were replaced with the highest-ranked stock not already owned in that particular sleeve of the portfolio. Over this period, the strategy (with a 50-per-cent allocation to each model) produced an annualized total return of 15.5 per cent while the S&P/TSX Composite Total Return Index returned 7 per cent across the same period.
One thing worth noting is that the strategies’ downside deviation (measuring the volatility of negative returns) was 6.6 per cent compared with the benchmark’s downside deviation of 8.7 per cent. Stocks that qualify for purchase into the both sleeves of the strategy today are listed in the accompanying tables. As always, investors are encouraged to conduct their own independent research before purchasing any of the investments listed here.
Emily Halverson-Duncan, CFA, is a director, CPMS sales at Morningstar Research Inc.