Big Winners Versus Frequent Winners

2/6/2017


Suppose you have two friends. One always answers when you call her, although she often isn't helpful or encouraging. The other picks up the phone only when she feels like it, but usually says the right things.

Which one is a better friend?

This isn't a trick question as much as an unanswerable one. Some of us would lean toward the one who always responds, while others would rather not be bothered unless the friend had something helpful to say. It comes down to personal choice.

Our Quadrix stock-rating system presents a similar dilemma.

Some individual factors have predictive power most of the time but don't generate much outperformance. Earnings predictability and estimate-revision trends for this year and next year fall into that category. All three statistics have at least a 60% winning percentage, meaning top scorers outperformed the average stock in at least 60% of rolling 12-month periods.

Other factors yield strong average outperformance but low winning percentages, suggesting they don't work that often, but when they do, they really show out. Price/sales ratios relative to three- and five-year averages fit this mold.

So which should we use, the biggest winners or the most frequent winners?

Fortunately, Quadrix's consideration of about 100 statistics prevents us from having to make that choice. We use metrics that yield high returns as well as those with an impressive winning percentage. Not many individual statistics offer both high returns and frequent outperformance. However, a select few make the cut.

Only 17% of the statistics we use in Quadrix have generated at least 1.5% average outperformance in 12-month periods, and only 18% outperformed in more than 60% of periods. How many metrics have 10 years of history in Quadrix and rank near the top in both average outperformance and winning percentage?

Five. Two are valuation ratios (price/free cash flow and enterprise value/EBITDA, two consider earnings-revision trends for the current quarter and the next quarter, and one measures the spread of earnings estimates for the current fiscal year around the average. Regular readers might recognize that the valuation ratios and quarterly estimate-revision trends turn up in a lot of our screens that look for particularly effective Quadrix factors.

In the table below we present stocks that score well in most of these five factors, and also look appealing from a broader perspective — in other words, earn high Overall scores. Two of these stocks are reviewed in the following paragraphs:

CommScope ($38; COMM) scores above 70 in four of the five featured Quadrix factors. The score that didn't make the cut was enterprise value/EBITDA, known as the enterprise ratio. The maker of network infrastructure products stands out more for its growth (sales up 40%, per-share profits up 13%, and operating cash flow up 105% over the last 12 months) than its value.

That's not to say CommScope is too expensive. The shares trade at just 13 times expected 2017 earnings, 20% below the median for communications-equipment makers. The stock's PEG ratio, or price/earnings divided by the long-term growth estimates, is 1.2, versus 1.6 for its peer group. These shares look cheap relative to peers on most metrics.

The consensus projects growth of 36% in per-share profits for the December quarter and 14% next year — targets CommScope should be able to meet, and possibly exceed. CommScope stands to benefit as U.S. telecom companies expand their fiber networks to boost bandwidth. CommScope, a Buy and a Long-Term Buy, plans to release December-quarter results Feb. 23.


Lear ($143; LEA) is the only recommended stock that scores above 60 in all five of the Quadrix factors discussed earlier in this story. Regular readers may remember that historically, even stocks with very high Overall scores (like Lear's 100) don't score well in every factor. However, one of Lear's main appeals is its lack of obvious weak points. It has delivered solid growth in recent quarters, profit margins are rising, and the 2017 profit estimate is trending higher. Despite all those positive factors, the shares trade at a discount of at least 24% to the peer-group median for trailing price/earnings, price/sales, and price/operating cash flow.

The growth trend continued in the December quarter, as Lear earned $3.80 per share on an adjusted basis, up 19% and $0.36 above the consensus. Sales fell 2% to $4.6 billion, missing the consensus. Seating sales fell 2% and were flat excluding currency shifts and commodity prices. At the electronics unit, now called E-Systems, sales were flat but rose 2% excluding foreign exchange and commodity prices. The company expects to generate $19.5 billion in sales next year, slightly above the consensus of $19.37 billion at the time of the announcement. While Lear shares fell on the earnings news, we still see upside to the 2017 per-share-profit estimate of $14.92, which implies just 6% growth. The stock is a Focus List Buy and a Long-Term Buy.

STOCKS WITH SOLID SCORES IN STRONG STATISTICS
All six of the A-rated stocks below earn scores above 60 in at least four of the five Quadrix scores highlighted in the nearby story for their effectiveness. Companies in bold are on our recommended lists.
------------------------------- Quadrix Scores -------------------------------
------------ Five Effective Individual Statistics ------------
Company (Price; Ticker)
Div.
($)
Yield
(%)
Trailing
P/E Ratio
Estimate
Dispersion,
Current
Year
Current-
Qtr. EPS
Revisions
Next-
Qtr. EPS
Revisions
Enterprise
Value/
EBITDA
Price/
Free
Cash
Flow
Overall
Industry
Anthem ($161; ANTM)
2.63
1.6
15
71
85
26
85
67
89
Managed care
CommScope
($38; COMM)
0.00
0.0
16
70
71
74
54
76
90
Commun. equip.
Express Scripts
($69; ESRX)
0.00
0.0
11
72
84
70
75
85
94
Health-care svcs.
Lear ($143; LEA)
1.20
0.8
10
61
86
89
88
83
100
Auto parts
Lincoln National
($69; LNC)
1.16
1.7
11
72
84
93
NA
73
96
Life & health ins.
VMware ($87; VMW)
0.00
0.0
20
76
90
66
24
67
89
Systems software
Note: Quadrix scores are percentile ranks, with 100 the best.     NA Not available.

 


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