Over the past 50 years, the average holding period for quoted shares has fallen from several years to just several months. One of the reasons for this is that many investors have changed from thinking long term to chasing growth wherever they can find it.
While the pursuit of exciting growth shares may work for some, it risks missing out on the powerful compounding effects of long-term capital and dividend growth. If that sounds a bit unexciting, take a look at the returns from a strategy which follows that approach and you’ll find it’s anything but boring.
Of all the investment models tracked by Stockopedia, few have produced a smooth upward trajectory quite like the Winning Growth & Income strategy. This approach has generated a 21.6% annualised gain over the past five years. In recent weeks – some six years after we started tracking it – the capital gain on the quarterly-rebalanced portfolio is just over 237%.
Now it’s important to note that regular portfolio churn and trading costs would take a chunk out of those performance profits in the real world. But a key point is that dividends aren’t included either. And, in this case, the presence of a high yield rule means that total return could have been much better.
What makes growth and income a winning strategy?
The consistency of Winning Growth & Income seems to be a simple set of rules that touch on three very influential drivers of returns – Quality, Value and Momentum, with the added bonus of above average yield. It’s a strategy inspired by work by US investment analyst Kevin Matras in his book, Finding #1 Stocks.
In terms of Quality, the screen looks for companies that are generating profits by looking for an above average Return on Equity and below average levels of debt. In the Valuation stakes, the shares should be trading on a below average rolling price-to-earnings (PE) ratio. And for Momentum, companies need to have seen recent analyst upgrades to their earnings forecasts for the next financial year.
In addition, the minimum market cap rule is set at £20 million, which opens the screen up to smaller – but not micro-sized – companies. But their Beta (the sensitivity of the share to the movement of the broader market) also has to be below average.
Growth with a dividend twist
In many respects, these rules echo some of what you see in GARP (growth at a reasonable price) strategies. It has hints at the kind of approach that you might see with fund managers like Mark Slater. Mark’s late father Jim Slater was also a noted fan of companies that pay dividends. In his book The Zulu Principle, he wrote:
“I prefer companies to pay a dividend, as most institutions need an income stream from their investments. Also, the dividend payment and forecast (if any) to some extent corroborate the management’s confidence in the future. The ideal company will have a steadily increasing dividend growing broadly in line with earnings.”
With all this in mind, this week we bring you some of the top qualifying shares for the Winning Growth & Income approach…
Name Mkt Cap £m % Increases in EPS Forecasts (past 3 months) Forecast PE Ratio Yield % Industry Grp NAHL 81.3 1.3 9.02 10.2 Media & Publishing Plus500 1,272 26.3 8.1 6.8 Investment Services City of London Investment 115.5 2.2 10.6 6.1 Investment Services Pendragon 370.2 1.9 7.33 6 Specialty Retailers Randall & Quilter 181.3 6.8 10.3 6 Insurance esure 968.4 1.9 11.1 5.8 Insurance Persimmon 7,636 1.4 9.49 4.5 Homebuilding Royal Mail 5,700 5.3 13.8 4.1 Freight & Logistics Headlam 487 7.2 12.7 4.1 Household Goods SThree 460.6 1.3 12.4 4 Professional & Commercial
Tied together, the GARP plus yield emphasis of the Winning Growth & Income strategy picks up names like the small-cap consumer marketing business NAHL (NAH), City of London Investment (CTY) and SThree (STHR) through to larger names like Plus500 (PLUS), Royal Mail (RMG) and Persimmon (PSN).
For investors tempted by the excitement of growth, but conscious of the long-term compounding benefits of reinvested dividends, a combined growth and income strategy could be a useful place to start.
As always, care is needed, particularly because when it comes to dividends. Very high yields can be a signal that the market no longer believes that the payout is sustainable. But looking for signs of strengthening profitability, an improving outlook and below average valuations could help in the search for growth companies with an added dividend kick.
Interactive Investor’s Stock Screening series is written by Ben Hobson of Stockopedia.com, the rules-based stockmarket investing website. You can click here to read Richard Beddard’s review of Stockopedia.com and learn more about the site.
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It’s worth remembering that these and other investment articles on Interactive Investor are simply for generating ideas and if you are thinking of investing they should only ever be a starting point for your own in-depth research before making a decision.
*No fee for publication is involved between Interactive Investor and Stockopedia for this column.
About the Author
Ben Hobson is Investment Strategies Editor at Stockopedia.com. His background is in business analysis and journalism. Ben researches and writes regularly on investment strategy performance and screening ideas for Stockopedia.com. He is the author of several ebooks including “How to Make Money in Value Stocks” and “The Smart Money Playbook”
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