How do you select investment ideas for the Quant Value newsletter? is a question we got from a lot of subscribers and we thought the answer would also interest you.
After all, you are investing your hard earned money in these ideas.
Are markets moving up - the newsletter does not invest in falling markets
Before we even start looking for ideas we make sure the markets aren't falling.
As you know when markets fall they all fall together – in more technical terms – they become correlated.
This means, when markets are falling and we keep on recommending investment ideas they will soon be sold because of the strict trailing stop loss system the newsletter follows.
This is definitely not what you want!
Stop buying when the market is falling
To solve this problem we follow a simple rule (based on a LOT of solid research) - No new ideas are recommended when the markets are falling.
This means we will only recommend new ideas if the moving average of the respective market index is above its 200 day simple moving average (SMA).
This is how it works
If the S&P500 index is above its 200 day SMA (and we can find good undervalued companies) we will recommend investment ideas in North America.
If the S&P500 index is below its 200 day moving average no North American companies will be recommended because it means the market is falling.
Now for more information on how investment ideas are found and selected.
Ideas from the investment model
The first step is to get a list of companies that fit with the newsletter’s investment model.
The investment model is built from the best investment strategies in the 54 page research paper I wrote with my friend Philip Vanstraceele Quantitative Value Investing in Europe: What Works for Achieving Alpha as well as all the latest research we have done on ideas we come across all the time.
You can see the latest research and testing we have done here: Quant Investing blog.
We use the Quant Investing stock screener to get investment ideas, using the following ratios and indicators:
- Qi Value – finds cheap companies
- Piotroski F-Score – finds quality companies
- Six months share price momentum – finds companies with an increasing share price over the past six months
- Daily traded value of more than $100,000 – makes sure you can easily buy and sell the ideas
- Market value of more than $50m – this also makes sure you can easily buy and sell the ideas
The screen looks like this:
When we have a list of companies
Once we have a list of companies, we build an analysis spreadsheet with five years of historical financial results on each of the companies.
Make sure a company is correctly included
The spreadsheet helps us make sure the company is not wrongly included in the screener because of data errors or unusual numbers (a large once-off profit for example) in its results.
This is what the spreadsheet looks like:
We then work through this 24 point checklist
To make 100% sure that the company fits in the newsletter’s investment model, we work through a 24-point checklist that looks like this:
If anything in the checklist looks unusual we do more research or just move on to the next idea.
Also, a company does not have to pass a certain number of checklist items before it is researched further.
The checklist questions are there to help us think of all the important items that we need to look at.
Check the latest news
If a company has made it through the above process and we have not found anything unusual we visit the investment relations website of the company and look at all the latest company news.
We specifically look at the latest financial results (half yearly or quarterly), as well as all the financial press releases to make sure the company has not done anything that may have changed its financial situation or its business.
Has the business changed?
We look for actions that can or have substantially changed the business or structure of the company.
Remember, the stock screener selects companies based on past results and you need to make sure the company has not changed substantially since the publication of its last financial results.
Examples of what to look for:
- Spin-offs - After a spin-off a company may look completely different from the company that was selected by the screener based on information before the spin-off.
- Special dividends - These may change the valuation as well as financial position of the company.
- Large acquisitions - May change the company’s business and or its financial situation, for example a lot of new debt.
No second guessing
During this whole process we try (this is a lot more difficult than it sounds) not to second guess the ideas the investment model comes up with.
For example, excluding companies because we do not like the business or the industry.
This is important because a lot of research has shown that second guessing a high performance, time tested, investment strategy leads to lower returns.
Because the investment model may recommend companies with a lot of negative news makes this especially hard. But it is something we have learned to live with.
Only then is a company included
Only if a company passes all the above tests is it chosen to be recommended in the newsletter.
These flow charts show you the process
Here is the whole process in the form of a flow chart - it may help to give you a better overview of exactly what we do.
And this is what happens to all the existing ideas in the newsletter each month:
As you can see, it is quite a process, with a lot of research and analysis.
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