What are we looking for?
A pooled portfolio of Canadian income and momentum stocks.
The screen
Investors typically look for stocks with similar attributes, such as a long history of paying dividends, a low valuation, or strong earnings reports, to name a few. While it’s good to know what you want, the one downside to screening for a lot of different metrics is that you can sometimes reduce your stock universe to a very small set of options.
One way to help identify stocks with the characteristics you’re looking for, but without drastically reducing the number of possible companies, is to look at these attributes separately. For example, if you’re looking for dividends but also want stocks with upward momentum potential, you can consider those as two separate styles, and create two portfolios to match each one.
My strategy today is constructed of two different portfolio “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 as of today holds 700 names.
The dividend-focused 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 dividends paid in the past four quarters, higher values preferred;
- Quarterly earnings surprise – proprietary measure of the difference between expected and actual reported quarterly earnings, high values preferred.
The momentum-focused 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 of earnings lagged by one quarter, higher values preferred;
- Quarterly earnings surprise (as with the dividend sleeve);
- 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.
What we found
I used Morningstar CPMS to backtest this strategy from January, 2004, to May, 2020. During this process, a maximum of 10 stocks a sleeve were purchased, for a maximum of 20 stocks. Stocks were sold from the dividend sleeve if their five-year annualized dividend growth fell into the bottom half of peers, and from the momentum sleeve if their share price dropped more than 15 per cent below its 200-day moving average. 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 produced an annualized total return of 14.8 per cent while the S&P/TSX Composite Total Return Index returned 6.5 per cent over the same period.
One thing worth noting is that the strategy’s downside deviation (measures the volatility of negative returns) was 7.7 per cent relative to the benchmark’s downside deviation of 9.6 per cent. Stocks that qualify for purchase into the both sleeves of the strategy today are listed in the accompanying table. As always, investors are encouraged to conduct their own independent research before purchasing any of the investments shown here.
Emily Halverson-Duncan, CFA, is a director, CPMS sales at Morningstar Research Inc.
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Emily Halverson-Duncan, CFA