Fave Five: What Works Best? (So Far)

This Week’s Fave Five is brought to you by Pittsburgh’s own Pat Donnelly. Pat stopped me in the hall at the National Association of Investors annual conference and said, “You know what — among many things — I wonder about? Which Fave Five selection mode has delivered the best performance?” That’s a really, really good question. Pat is the chair of the NAIC volunteer advisory board.

Fave Five (5/24/2019)

We started the Fave Five as something of a whim. It was sort of the answer to the question, “Is it possible to highlight 3-5 companies a month, let alone a week?” After a few years, the results are becoming compelling and provocative. If you’ve been around here for more than a little while … you know that we treasure skepticism and critical thinking about the challenges and potential of investing.

It’s time to refine our characterization of the “Fave Five.”

Our Fave Five essentially represents a listing of stocks with favorable long term total return forecasts and good/excellent quality rankings. We basically screen on Manifest Ranking (equally-weighted PAR and Quality). This is the primary screening criteria every single week. The only variation is how “deep” we go into the percentile rankings. Sometimes we stop at 99.44% … other times sticking to the top 2% … or 5% … and when in a bottom fishing mode as low as top 50% or even “deeper.”


Keep in mind that a repeat appearance among the Fave Five for a given DOES NOT result in “accumulation.” Once a stock is “in”, it’s in until it’s “out.” So the accompanying image of results is measuring the performance of the tracking portfolio.

And speaking of “out”, we’ve been using this demonstration portfolio to deploy (1) Rule-of-5 “time outs” for companies that lag the market by more than 20 percentage points, (2) celebrate success as measured by a stock price soaring to the extent that the return forecast (PAR) approaches low single digits. These are fun. (3) We’ll be adding a quality degradation algorithm. Stay tuned.

Second Screens

So the real difference is the secondary screening criteria each week. The default setting is the highest 1-year total return forecast by analyst consensus. Hence the 112 selections. We’re elated to see a premise hold as the relative return for this most frequent criterion is beating the market.

But the most compelling results come from three secondary screening criteria: (1) High Growth, (2) Irish Spring and (3) Triple Play. High Growth is just what you think it is. It’s compliant with our search for excellent smaller and faster-growing companies. The elevator speech is GREAT companies growing in double digits — with top line growth of 10% or 12% or more.

Irish Spring resonates with real “risk” reduction as our resident Irishman, Hugh McManus, has guided us to find GREAT companies available near their 52-week lows.

And Triple Play is a powerful nod to the legacy of the modern investment club movement and George Nicholson’s nudge to seek companies with (1) depressed stock prices, that (2) have the potential for margin enhancement and (3) P/E ratio expansion.

“Most Oversold” is simply the qualifiers with the lowest Relative Strength Index (RSI) courtesy of StockCharts.com. Yes, Virginia, it’s a technical indicator. But it could prove to be something that heeds Ralph Acampora’s advice in Chicago last weekend to “Go ahead and do all the wonderful things you do to study companies but before you press the BUY button, do Ralphie a favor and check the price trends. Is your discovery gaining or falling in stock price?” There’s only two selections in this category so far. That will change. Soon.

We’re also optimistic about Owner ROC. (More to follow on this) Anecdotally, we think it will remain faithful to virtually all of the foundational concepts while raising the awareness and emphasis on debt capital. Stay tuned here, too.

The Long and Short of This Week’s Fave Five

Long & Short Term Perspectives. (May 24, 2019) Projected Annual Return (PAR): Long term return forecast based on fundamental analysis and five year time horizon. Quality Ranking: Percentile ranking of composite that includes financial strength, earnings stability and relative growth & profitability. MANIFEST Ranking: Equally weighted ranking of Return Forecast (PAR) and Quality. 52-Week Position: Position on scale between 52-week low price and 52-week target price. VL Low Total Return (VLLTR): Low total return forecast based on 3-5 year price targets via Value Line Investment Survey. Morningstar P/FV: Ratio of current price to fundamentally-based fair value via www.morningstar.com ACE P/FV: based on analyst consensus for fair value. Owner’s Return On Capital: Return (Profitability, long term estimate) vs. Total Capital (equity + debt). S&P P/FV: Current price-to-fair value ratio via Standard & Poor’s. 1-Year ACE Outlook: Total return forecast based on analyst consensus estimates for 1-year target price combined with current yield. The data is ranked (descending order) based on this criterion. 1-Year S&P Outlook: 1-year total return forecast based on S&P 1-year price target.

Fave Five Legacy (Tracking Portfolio)

The relative/excess return for the Fave Five tracking portfolio is +2.4% since inception.

The absolute annualized rate of return is 11.8%.

Tracking Dashboard: https://www.manifestinvesting.com/dashboards/public/fave-five

Hot Links & Fractured Fairy Tales

Hot Links & Fractured Fairy Tales

I’m often asked about the utility of Twitter and similar “newsfeed” type services. I have to admit that I was extremely skeptical about 140 character blasts and an endless stream back when I first started exploring but I rapidly discovered that Twitter can be a path to discovering and sharing information.

Favorite “Follows” by @ManifestInvest

At Twitter you “follow” people that you’d like to hear from. For me, this includes a number of friends, and it also includes investing-related thought leaders and information providers. I also subscribe to (follow) sources like the various Fed research departments (Minneapolis & St. Louis rock) and companies that I follow. Some of my favorites:

  • @ritholtz — http://www.ritholtz.com/blog/
  • @eddyelfenbein — http://www.crossingwallstreet.com
  • @StovallSPCAPIQ — Sam Stovall (Standard & Poor’s)
  • @BobBrinker
  • @SelenaMaranjian — writer for www.fool.com (also Brothers Gardner via @TomGardnerFool & @DavidGFool)
  • @lecreative — Amy Buttell, colleague and Better Investing alum, writes on “all things financial.”
  • @TMFHousel — not just another Fool
  • @NateSilver538
  • @ReformedBroker — Joshua Brown

As an example, let’s take a look at a recent reading list shared by Josh. I generally find 2-3 things to scan whether it’s Eddy, Barry or Josh laying out the smorgasbord.

Here’s the link: http://thereformedbroker.com/2015/11/17/hot-links-fairy-tales/

What I’m reading this morning:

  • US dollar screams to a 7 year high (Bloomberg)
  • Stocks: Top 10 High-Conviction and New-Money Purchases (Morningstar)
  • Soros lightens up his bet against the S&P 500 (MoneyBeat)
    …and he joins Icahn in a bet on PayPal (Business Insider) — [… one for Kim Butcher and Round Table followers]
  • Alphabet, Amazon Lead A.I. Charge as Machines Take Over, Says UBS (Barron’s)
  • CEO of Alerian Index admits that MLPs are sensitive to oil prices. So much for the “toll collector” fairy tale (ETF.com)
  • Investment banks’ revenue set to decline again in 2015 (Reuters) — probably explains down draft in stock prices of asset managers
  • Home Depot continues to crush it. Another flawless quarter. (Business Insider)
  • Cliff Asness: Good investing is not about genius, it’s about fortitude (Business Insider)
  • Retailers hate those new credit card chips (New York Times)
  • Children born today will most likely live on average to their late 80’s (Upshot) — … one of our favorite themes

Fun With Dashboards: M&A (Walgreens)

Does Walgreen (WBA) Acquisition of Rite-Aid (RAD) Justify The Stock Price?

Merger & Acquisition Dashboard Analysis. The dollar values entered (104 and 31) reflect the annual revenues (2015E) for the two companies. Walgreen is three times the size of Rite-Aid. The key figures are (1) the return forecast (PAR) for Rite-Aid which suggests that WBA is not over paying for RAD. (2) It is normal and customary for a company to pay a price that delivers a sub-zero return forecast, or PAR (Projected Annual Return). In this case, 7-8% is a pretty good deal for WBA. (They’ll have considerable restructuring and store portfolio management to do in the wake of the deal) (3) The other consideration is the relatively weak quality ranking, financial strength and EPS stability of the long-suffering RAD. The combination here is simple weighted-average math. The more elusive answer is whether Walgreen can transfer culture and operating performance to the new assets.

We often are asked about merger & acquisition analysis. It really does boil down to the return forecast (at the offered price) as to whether the price is too high. Many, many transactions feature situations where the PAR for the acquired company is -10% or -5% and this is particularly true for technology sector mergers. And yes, Virginia, this overpaying in the guise of “synergies” is the root of the good will that ends on company financial statements.

Is Walgreen overvalued? At a PAR of 9-10%, “They” don’t think so. (Remember our return forecast is based on analyst consensus and sources like Value Line, Morningstar, S&P, etc.)

When you pick up the morning newspaper and read that the Rite-Aid stock price is trading at a 50% premium to yesterday’s close and that “the deal is clearly a favorable transaction” — ignore that. The only thing that matters is the long-term return forecast based on the new stock price. A comparison to yesterday’s stock price for anything is uninformative.

The management team at Walgreen is experienced and effective. It will be interesting to watch them make decisions, shedding stores and optimizing the portfolio — and preventing the combined company from falling to the average quality, financial strength and avoiding EPS disruptions as they tackle the challenge. We’ll check back in a couple of years from now to see how they’re doing.