What are we looking for?
Earlier in the week, we screened for cheap stocks with strong earnings momentum. Today, we'll look at what happens when we look for cheap stocks that have poor earnings momentum.
More about today's screen
We'll turn to Morningstar CPMS again, which provided the Bargain Portfolio screen earlier this week.
Morningstar CPMS is a Toronto-based equity research and portfolio analysis firm. It keeps a database of about 660 of the largest and more liquid stocks in the country and spends a lot of time adjusting for unusual accounting items in each company's quarterly results to make sure screens can perform correctly.
Today, we'll filter for stocks that have a reasonable price-to-book-value-per-share ratio, but have poor earnings momentum.
To find stocks with poor earnings momentum CPMS looks for weak quarter-over-quarter earnings growth (CPMS actually uses a rolling four quarters methodology), falling earnings estimates over the past three months, and negative earnings surprises in the last quarter.
CPMS senior consultant Jamie Hynes said he tested this screen from 1985 to the end of last month and found it returned minus 1.8 per cent annualized, compared with a positive 9.7 per cent return for the Bargain Portfolio he highlighted earlier this week.
Mr. Hynes notes that there are times this screen works in reverse, such as the market recovery of 2009. After declining 63 per cent in 2008, the portfolio of cheap stocks with poor earnings momentum rose 158 per cent in 2009.
"Sometimes stocks get so cheap that regardless of how bad earnings look, there's nowhere to go but up," he said. "With that said, annualized performance since 1985 proves that buying stocks with this kind of profile is a recipe for disaster."