Work Your Advantage

7/28/2014


There is no magic formula for producing superior returns in the stock market. But you can put yourself in the best position to succeed by applying a consistent, repeatable strategy.

The backbone of our strategy is Quadrix, a quantitative rating system used in real time since 2000 and back-tested to the early 1990s.

Of course, no system is foolproof. But the Quadrix Overall score and sector-specific ranks can be effective tools for tilting the odds in your favor. The 12-Factor Sector score focuses on a dozen statistics that work particularly well in a given sector. The Reranked Overall score uses the same six category scores that comprise the Overall rank, but reweights those categories based on effectiveness within a given sector.

For this study, we divided the stocks in our Quadrix universe into 33 equal-numbered baskets and calculated future 12-month returns for stocks in each of those baskets. Our Quadrix universe currently contains 4,940 stocks and has averaged 5,244 stocks since June 1999, as far back as the sector scores go.Stocks in the basket with the highest Overall scores averaged 12-month returns of 21.3% since June 1999, a stretch including 169 rolling periods, well above the average of 15.4% for the research universe. Stocks in this top basket earned an average Overall score of 98.5.

The next-best basket (average Overall score of 96) delivered an average 12-month return of 19.6%, second-highest among the 33 baskets. Stocks in the third-best basket (93) produced the third-highest return of 18.7%.

TOP SCORES, TOP PERFORMANCE
Average 12-Month Performance
------ For Baskets Based On ------
Overall
(%)
12-Factor
Sector
(%)
Reranked
Overall
(%)
3 Highest-Scoring Baskets
19.8
19.5
20.3
Top 12 Baskets
16.4
17.0
17.6
Bottom 12 Baskets
14.3
13.8
13.1
3 Lowest-Scoring Baskets
9.1
11.1
10.1
All 33 Baskets
15.4
15.4
15.4

In contrast, stocks with the lowest Overall scores (2) went on to deliver an average return of just 6.2%, worst among the 33 baskets. The three baskets with the highest Overall scores averaged 12-month returns of 19.8%, compared to 9.1% for the three lowest-scoring baskets.

As with the Overall rank, stocks in the highest basket for each sector-specific score produced a meaningful improvement in returns from the next-highest basket.

In the table below, we highlight nine recommended stocks that enjoy super-high scores for at least one of the three highlighted Quadrix ranks. Five are reviewed below:

Aetna's ($85; AET) maximum Reranked Overall score of 100 puts the stock in the top basket for the sector-specific rank. Since June 1999, stocks in that basket have averaged 12-month returns of 22.4%. The managed-care giant's Overall rank of 97 qualifies for the second-best basket.

Scheduled to report June-quarter results on July 29, Aetna is expected to report an increase in per-share profits of 5% to $1.60 on 21% higher revenue. Given the results of peers that have already reported, Aetna seems likely to beat consensus estimates. Rival UnitedHealth Group ($86; UNH) topped analysts' expectations for the June quarter and raised the midpoint of its 2014 guidance for both profits and sales. UnitedHealth described moderate cost trends for its commercial plans (84% of Aetna's members).

On July 22, two federal appeals courts issued conflicting rulings regarding the legality of subsidies for insurance premiums provided by the Affordable Care Act's federal health exchanges. Without the subsidies, health insurance would likely become unaffordable for the majority of Americans who enrolled through federal exchanges, which operate in 36 states. Higher expenses could cause healthier Americans to opt out of insurance, causing premiums to soar. Resolution of the matter will not come soon and could ultimately be settled by the Supreme Court. Less than 3% of Aetna's members are enrolled in federal or state insurance exchanges. The stock is a Long-Term Buy.  


Ameriprise Financial ($123; AMP) shares have rallied 11% since we recommended the stock in late May. The company offers a broad portfolio of products and services, including mutual funds, annuities, insurance, and investment advice. Demographic trends should help the company as more baby boomers approach retirement, raising demand for financial advice. Equity mutual funds saw inflows of $56.22 billion during the March quarter, followed by $11.68 billion in the June quarter, according to the Investment Company Institute. Flows into equity exchange-traded funds (ETFs) were also positive in the first half of the year.

The Overall score of 97 is buttressed by a long-term record of operational growth and favorable short-term trends. Cash from operations in the 12 months ended March more than doubled to $2.26 billion, the product of solid sales growth, rising profit margins, and improving return on equity. For the June quarter, the consensus expects per-share profits to be up 18% to $2.00 on 10% revenue growth. Ameriprise, set to post results on July 29, is a Focus List Buy and a Long-Term Buy.


More than 80% of Foot Locker's ($48; FL) Quadrix factors rank in the top half of our research universe, with 35% above 70. The Overall score, currently 98, has exceeded 96 in five straight months and 80 in at least 24 consecutive months. The retailer's consistent Overall score reflects steady operational growth. Foot Locker has posted 17 straight quarters of higher same-store sales and 18 straight quarters of wider operating profit margins. Improvement in Europe, which represents about 20% of sales, could provide a near-term catalyst.

The stock delivered a total return of 25% in the past six months. Yet Foot Locker trades at less than 16 times trailing earnings, 26% below the five-year average. Both trailing and forward P/E ratios are more than 10% below the medians for S&P 1500 apparel retailers. Foot Locker is a Focus List Buy and a Long-Term Buy.


With an Overall rank of 99 and the maximum 100 in both sector-specific ranks, Magna International ($111; MGA) qualifies for the top basket in all three of the ranks we considered for this story. Magna's Overall rank has shown remarkable consistency, exceeding 96 in 19 straight months. Magna's stock-price momentum has been nearly as impressive, with total returns of 36% so far in 2014 and 48% over the past 12 months. Despite the rally, Magna shares still look cheap, earning a Value score of 79. At 14 times trailing earnings, the stock trades 21% below the median for S&P 1500 auto-parts stocks. Magna's forward P/E ratio of 13 equates to a 20% discount to its peer-group median.

The stock's next catalyst arrives Aug. 8, when Magna will announce June-quarter results. The consensus anticipates per-share profits of $2.21, up 24% on revenue growth of 4%. Analysts have become increasingly bullish on Magna's prospects, reflected by an Earnings Estimates score of 97. U.S. auto sales topped expectations in June, with the seasonally adjusted annualized sales rate hitting its highest level since July 2006. North America accounted for 51% of Magna's 2013 sales. Magna is a Focus List Buy and a Long-Term Buy.


Skyworks Solutions ($54; SWKS) shares surged after the semiconductor maker posted outstanding June-quarter results and gave a bullish outlook. Per-share profits jumped 54% to $0.83 excluding special items, topping the consensus estimate of $0.80. Revenue also exceeded analysts' expectations, advancing 34% to $587 million. Sales have grown at least 11% in seven straight quarters. Profit margins widened, while cash from operations more than tripled to $199 million.

In Quadrix, Skyworks scores at least 90 for five of six categories, with an Overall rank of 96. The exception is a Value score of 46, though the stock's trailing P/E ratio of less than 20 is 13% below its own five-year average and 17% below the median for S&P 1500 semiconductor stocks. That valuation seems reasonable given Skyworks' ability to keep outgrowing the broader semiconductor industry. Buoyed by rising demand for wirelessly connected gadgets, Skyworks expects September-quarter earnings per share of $1.00, up 56%, on sales of $680 million, up 43%. The consensus had projected earnings of $0.87 per on revenue of $608 million at the time of the announcement. Skyworks is a Buy and a Long-Term Buy.

SUPERSTARS OF QUADRIX
We screened for recommended stocks with super-high scores in Quadrix. All nine stocks below score at least 97 for Overall, 12-Factor Sector, or Reranked Overall. They also score above 85 for the two other ranks and have higher estimates for profit growth and lower valuations than their sector medians.
Total
--- Return ---
Est. EPS Growth
Curr. Fiscal Year
Traling
---- P/E Ratio ----
Forward
---- P/E Ratio ----
-------- Quadrix Scores --------
Company (Price; Ticker)
YTD
(%)
1
Year
(%)
Stock
(%)
Sector
Median
(%)
Stock
(%)
Sector
Median
(%)
Stock
(%)
Sector
Median
(%)
Overall
12-
Factor
Sector
Reranked
Overall
S&P 1500
Sector
Aetna ($85; AET)
25
32
12
8
13
22
13
20
97
94
100
Health care
Alaska Air Group
($49; ALK)
34
59
37
10
16
21
13
19
99
96
99
Industrials
Ameriprise Fin'l
($123; AMP)
8
43
17
10
16
17
15
17
97
86
92
Financials
Apple ($95; AAPL)
20
59
11
10
16
21
15
20
99
90
99
Technology
Foot Locker
($48; FL)
18
34
15
12
16
19
15
18
98
87
99
Discretionary
Lear ($96; LEA)
19
45
30
10
15
19
13
18
95
99
94
Discretionary
Magna Int'l
($111; MGA)
36
48
16
12
14
19
13
18
99
100
100
Discretionary
Skyworks
($54; SWKS)
90
127
42
10
20
21
17
20
96
96
97
Technology
UGI ($51; UGI)
24
26
23
6
17
18
17
17
89
96
97
Utilities
Note: Quadrix scores are percentile ranks, with 100 the best.

 


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