What are we looking for?
Dividend-paying Canadian companies with low variability in earnings, and low historical beta.
The screen
This week I revisit the CPMS Conservative 10 strategy, which is a long-standing model intended for investors who look for steady companies that have reasonable valuations, provide a sustainable yield and have low variability in earnings.
Earnings variability is a key factor in the strategy. CPMS calculates the volatility of a company's reported earnings per share on a quarterly basis and considers the full history of the company. Lower variability is desired for conservative stock pickers.
Beta is also a key factor in the model: It measures the historical sensitivity of a stock's price movement to the S&P/TSX composite index. Conservative stock pickers tend to like lower beta stocks since they will move less than the index when markets trend downward.
The CPMS Conservative 10 strategy considers stocks within the largest 200 names in Canada by market cap, ranked by the best combination of the following factors:
– historical five-year price beta;
– expected dividend yield;
– three-month estimate revisions;
– variability of historical earnings;
– price to book;
– price to trailing earnings.
Qualifying companies have a dividend greater than 1 per cent and a dividend payout ratio less than 80 per cent.
More about Morningstar
Morningstar 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 110 equity and credit analysts, Morningstar has one of the largest independent institutional equity research teams in the world.
What we found
I used CPMS to back test this strategy from December, 1991, to April, 2015.
During this process, 10 stocks were purchased and equally weighted with a maximum of two stocks a sector. Stocks would be sold if they fell outside the top 40 per cent of the ranked universe.
Over this period, the resulting strategy produced an annualized total return of 15.2 per cent while the S&P/TSX composite total return index returned 9 per cent. The current top 10 qualifying stocks are listed here.
As always, investors are advised to conduct their own independent research before purchasing stocks shown.
Ian Tam, CFA, is a relationship manager for CPMS at Morningstar Research Inc.