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Phil Dabo: Welcome to Quant Concepts. We recently completed our quarterly market review for CPMS where we analyzed the stock market from a quantitative point of view. We found that the best-performing variables within CPMS over the past quarter included price and earnings momentum.
As a whole, the 50 best-performing stocks in the Canadian database exhibited higher earnings expectations from analysts and higher quarterly earnings momentum. Although the stock market is still near its all-time highs, there might still be opportunities in areas that have a lot more room for growth. Today, let's take a look at a strategy that focuses on price and earnings momentum.
As always, we are going to start by selecting our universe of stocks, which includes all 700 stocks in our Canadian database. Next, we are going to rank our stocks from 1 to 700 according to five key factors.
The first factor is our quarterly earnings surprise because we want to find companies that are beating analysts' expectations. Next is our quarterly earnings momentum because we want companies that are not only beating analysts' expectations but are actually reporting higher earnings per share quarter-over-quarter. The next three variables are momentum variables. The price relative to the 50-day moving average and 200-day moving average are very popular technical indicators that are meant to identify stocks that are in an uptrend. Our last momentum factor is the price change relative to the 12-month high because it's a good momentum variable with downside protection. We've found that certain stocks that are trading close to their previous 12-month high have tended to perform well.
Now that we have our stocks ranked from 1 to 700, we are going to go through our screening process starting with our buy rules. Here we've kept things very simple. We are only going to buy stocks that are ranked in the top half of our list, and we are only going to buy stocks that are ranked in the top third based on the price change to 12-month high. We also want decent liquidity. So, the stocks have to be ranked in the top two-thirds of our list based on the average monthly value traded.
Now, let's take a look at our sell rules, which are even more simple than our buy rules. We are only going to sell stocks if they fall out of the top 75th percentile of our list.
Now, let's take a look at performance. The benchmark that we used is the S&P/TSX Total Return Index, and we tested this strategy from January 2010 to September 2021. Over this time period, the strategy generated a very strong 18.4% return, which is 13.2% higher than the benchmark and a 74% annualized turnover. When looking at the annualized periods, we can see significant outperformance by the strategy over every significant time period, and it's done so with slightly higher price risk as you can see by the standard deviation, but it's also generated significantly higher risk-adjusted returns as you can see by the Sharpe Ratio. All this being said, the strategy still has slightly higher market risk as you can see by beta.
When looking at this performance chart, you can see very strong outperformance by the strategy over time and when looking at the up and downside capture ratios, we can see that this strategy has performed well throughout different market cycles, which says a lot about our momentum strategy. This is a great strategy to consider if you believe that there's still areas of the stock market that can experience higher prices. The stocks on the buy list are experiencing more price momentum, but they have also been generating higher earnings momentum, higher earnings surprises and analysts still have a positive outlook for them. You can find the buy list along with the transcript of this video.
From Morningstar, I'm Phil Dabo.
Find the buy list here.
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