What are we looking for?
Canadian companies with a solid growth outlook and improving profitability. We ran this screen in December; today's offering updates the results.
More about today's screen
Craig McGee, senior consultant at CPMS Morningstar Canada, graded 730 Canadian firms on a checklist of growth and profitability characteristics. Based on those grades, he selected the top 20 stocks with a market capitalization greater than $500-million. The criteria he examined were:
-four-year average return on equity (ROE). (To calculate this number he used analysts' consensus expectations for 2013 and 2014, as well as reported earnings per share (EPS) for 2011 and 2012);
-three-month consensus 2013 EPS estimate revisions;
-Annual rate of change of ROE (latest reported 12-month ROE versus ROE from four quarters before);
-Annual rate of change of EPS (latest reported 12-month EPS versus EPS from four quarters before);
-Annual rate of change of revenue (latest reported 12-month revenue versus revenue from four quarters before);
-Annual rate of change of operating cash flow (latest reported 12-month cash flow versus cash flow from four quarters before);
-Change in net margin (latest reported 12-month EPS/sales minus EPS/sales from four quarters before).
To guard against too much focus on any single industry, Mr. McGee allowed no more than five stocks from any one sector.
More about CPMS
CPMS, a division of Morningstar Canada, provides quantitative North American equity research and portfolio analysis to primarily institutional clients. It covers more than 700 Canadian and 2,200 U.S. stocks, and spends a lot of time adjusting for unusual accounting items in each company's quarterly results to make sure screens can perform correctly.
What did we find out?
This strategy has performed well since 2003, and continued to do so in 2012, when it generated a total return of 22.9 per cent compared with 7.2 per cent for the S&P/TSX Total Return Index. Tempting as the results look, investors should factor in the constant supervision required to follow this strategy, as well as substantial trading costs. Turnover tends to be high as stocks fall in and out of the selected portfolio.