The theory behind momentum investing (buying rising shares and selling falling ones) has been rigorously tested by academics over many years and has rarely been found wanting, but month-to-month results from the strategy can be annoyingly erratic.
Indeed, out of the 21 three-month periods over which we've monitored our blue-chip long and short portfolios, the portfolios have only behaved as they are meant to (outperforming the market in the case of the longs and underperforming in the case of the shorts) less than a third of the time. Like many "no-brains" screening-based strategies, momentum investing demands investors rigorously stick to their knitting. However the last three months have been one of those relatively rare periods when everything has gone to plan.
While the FTSE 100, from which our 10 long and 10 short positions are selected on a quarterly basis, rose 3.5 per cent, the longs outperformed by a decent margin rising 7.3 per cent and the shorts underperformed with a 1.1 per cent gain. The performance of the portfolios, which are reshuffled every three months, has enhanced the impressive long-term trend (see graph).
Such a well-behaved quarter suggest the trends influencing the market's behaviour have not changed very much over the three months. Indeed, in our most recent short portfolio (see below) four of the 10 stocks - Eurasian Natural Resources, Evraz, Kazakhmys and Vedanta - also featured in our previous selection of shorts. What’s more, once again all but one of the short stocks is from the resources or financial sector – the exception being G4S.
Momentum shorts
- Eurasian Natural Resources Corp Plc
- Anglo American plc
- Evraz plc
- Kazakhmys PLC
- ICAP plc
- The Royal Bank of Scotland Group plc
- Barclays PLC
- Vedanta Resources plc
- G4S plc
- Rio Tinto plc
There's been more change in the make-up of the long portfolio in which only two of the stocks from the previous portfolio have retained a place – Next and Whitbread. The portfolio also feels more dominated by stocks with strong individual stories rather than strong sector themes. We take a closer look at the stories propelling the long stocks below.
10 RISING STARS
Price: 631p
Performance (15 Jun – 4 Sep 2012*): +30%
Full-year results at the start of this month help underline why Hargreaves' shares made it to the top of the FTSE 100 performance table over the three months. Despite a tough backdrop, new clients have continued to flock to the group helping to deliver a 15 per cent rise in full-year revenues. A relatively static cost base meant profitability climbed fast and EPS beat analysts’ expectations by rising 23 per cent. Regulatory concern regarding the treatment of fund platforms, such as the Vantage platform owned by Hargreaves, has also begun to diminish over the past three months. Last IC view: Hold, 633p, 5 Sep 2012
Price: 598p
Performance: + 25%
Torrid economic conditions are a concern for publishing company Reed Elsevier, but so far it has been holding up well. In fact, in the first half the group moved ahead on every front. The market was especially impressed by the improvement in performance at its business information division. Proceeds from recent disposals are to be used to fund buy backs and the shares offer a decent dividend yield based on forecasts from broker Numis of 3.8 per cent. Last IC view: Hold, 541p, 26 Jul 2012
Price: 300p
Performance: +22%
Sage's shares have bounced back strongly after hitting lows of 245p in May due to growth concerns caused by troubled Western economies and the move by customers from software purchases to subscriptions. However, the £125m acquisition of a Brazilian business in June appears to have prompted the shares rebound, although at 3 per cent of sales it is questionable how significant this will be for growth in the near term. Sage's key attraction though is its strong cash generation. Broker Peel Hunt estimates buyback plans have the potential to enhance earnings by as much as 20 per cent and forecasts a dividend yield of 4.2 per cent. Last IC view: Sell, 269p, 9 May 2012
Price: 213p
Performance: +22%
It's GKN's move into the aerospace market, and specifically the acquisition of Volvo’s aerospace arm for £633m at the start of July, that has sent the shares soaring over the past three months. The group now generates about 40 per cent of its profits from aerospace which is considered a more reliable market than its traditional car parts operation. Strong growth in recent North American car sales have also helped sentiment although Europe is weak and the car market has been very volatile over recent years. Still, valued at less than eight times Investec’s forecast earnings the price accounts for bumps in the road despite the recent rise. Last IC view: Buy, 213p, 31 Jul 2012
Price: 325p
Performance: +22%
Shares in life assurer Aviva have been buoyant since a shareholder revolt prompted the resignation of the chief executive and the unveiling of a restructuring plan. The company has an ambition of making £400m worth of cost savings and selling off 16 businesses. A £876m half-year writedown to the value of its US business suggests sales could be announced soon. If the restructuring is deemed a success there should be plenty more upside to play for as the shares are valued at a discount of about 24 per cent to their embedded value. Last IC view: Buy, 314p, 9 Aug 2012
Price: 264p
Performance: +21%
Standard Life substantially beat the market's expectations when it reported first-half results adding to the sentiment surrounding its three-year restructuring programme. The better-than-expected performance was largely down to a substantial drop in costs in the UK business following heavy investment in technology. The group's Canadian business has been suffering recently due to the low interest rate environment but plans are afoot to improve performance by focusing the business more on fee-based services. Last IC view: Buy, 274p, 14 Aug 2012
Price: 2,562p
Performance: +20%
Heating and plumbing supplies giant Wolseley has been experiencing mixed fortunes this year. While its North American operations, which generate about half the group’s turnover, have been doing well and increasing profitability, trading in Europe has been tough. The group has announced a review of its operation in France and Denmark which could lead to write downs and, more attractively from the market's perspective, their possible disposal. Last IC view: Buy, 2,220p, 31 May 2012
Price: 3571p
Performance: +18%
Investors who are sceptical about Sage's EPS growth prospects (see above) may want to take a look at retailer Next as an example of how strong cash generation can translate into strong EPS growth without significant top line progress. Indeed, broker Shore Capital calculates that, with the help of buy backs, in the five years to January 2012 Next increased its EPS by 71 per cent despite operating profit rising by just 10 per cent. With the mail order business performing strongly, ongoing margin improvements, and more buybacks on the cards, the market expects more of the same. Last IC view: Hold, 3,501p, 3 Aug 2012
Price: 2,100p
Performance: +16%
Whitbread’s shares have been buoyed over the past three months by a strong set of first-quarter results and subsequent trading update. The Costa Coffee chain continues to be the company's growth engine and, despite management’s denials, the market continues to speculate about the potential for the business to be spun off. However, the surprise has been how strongly the group’s Premier Inns budget hotel arm and its restaurant business are growing. Premier has benefited from the woes of rival Travelodge while a better-than-expected consumer environment and lower cost inflation has benefited both businesses. Growth should also be boosted this year by plans to open 350 new Costa stores and add 4,200 new hotel rooms. Last IC view: Hold, 2,040p, 22 Jun
Price: 320p
Performance: +16%
It's tough being a defence company at the moment with the budgets of big Western players, the US and UK, under severe pressure. Still, the bad news looks priced in at BAE with its shares trading at just 8 times broker Investec’s forecast for the year and promising a 6 per cent yield expected. So with sentiment being so low, news of international order wins, particularly in Saudi Arabia, and signs of stability in the UK have been enough to put a wind in the sails of the shares recently. Last IC view: Buy, 307p, 3 Aug 2012
* Due to publication timing the stock above consist of the top performers from 15 Jun to 4 Sep. This will be updated to account for a full three-month period to 15 Sep when future results from this screen are published.
