“It’s far better to buy a wonderful company at a fair price than a fair company at a wonderful price,” one of the many pearls of the wisdom from Warren Buffett. But how do we find such wonderful companies? This screen aims to fulfill this function, and eliminate some of the pitfalls that are inherent in the use of certain metrics frequently used a indicators of ‘Quality’.
Our Alpha Quality screen uses two key measures, which are operating margins and return on equity. But we are mindful that cyclical factors and debt can flatter a company’s return on equity. We aim to eliminate this risk from the screening results by introducing interest cover tests to eliminate companies aggressively gearing up their balance sheet.
Buying shares in companies that look attractive based on quality metrics has in aggregate proved a profitable strategy even if some that meet the criteria sometimes fall short of the buy-and-hold ideal. The High Quality Large Cap and High Quality Small Cap screens run in the Investors Chronicle magazine have respectively generated compound five-year total returns of 158 per cent and 148 per cent, to the end of 2017. That compares with 63 per cent from the FTSE All Share and 78 per cent from a 50:50 split between the FTSE Small Cap and FTSE Aim All Share.
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