While shareholders typically cheer the inclusion of their stock in a major index such as the NASDAQ-100 (QQQ), research and history tells a different story. Not only is inclusion typically based on a few years of excellent results, but also the process of being included in index funds can create a temporary peak in the stock.
In the case of Green Mountain Coffee Roasting (GMCR), the specialty coffee and single serve beverage innovator had soared over the last year and comes amidst continuing questions regarding accounting procedures.
A report from Schaeffer's Investment Research would actually suggest that investors should buy the stocks that have been removed from the index. In this case, the stock being removed is due to buyout so investors won't be provided that opportunity. The study showed that since 2008 that the 29 stocks that have been removed from the index had a one-year average return of 63.6% and a median return of 42.6%.
The magnitude of the returns is skewed by the size of the gains following the December 19, 2008 removals. In that case, Sirius XM Radio (SIRI) and Virgin Media (VMED) had absurdly large positive gains of 395% and 265%, respectively. Naturally, the size of the gains is very dependent on the market climate both when the stocks are removed and for the year after.
Just last year, Netflix (NFLX) was removed with the stock trading at $94.80 and everybody should know the story by now. Shortly after removal, the stock surged due to positive year-end numbers that quickly sent the stock surging to $200. The stock currently sits over $300 for a greater than 200% gain in less than a year. Another great example is Warner Chilcott (WCRX) that virtually bottomed at the announcement of the removal last year at around $11 and has already doubled to $22.
The list of inclusions from last year have generally done well, but the magnitude of the gains are smaller since these stocks didn't have the downward pressure prior to entry to provide a huge pop. Equinox (EQIX) is a great example of a stock included towards the peak. The stock has lost roughly 10% during this time period after gaining 100% the year prior to inclusion. Facebook (FB) makes an interesting study since the stock has soared within the year of inclusion, but it spent the first seven months trading virtually flat.
Green Mountain rejoined the index at the market open on August 22, 2013 after being removed back on December 24, 2012 amid a major slump in the stock. On August 22, it officially became part of the NASDAQ-100 Index (NDX), the NASDAQ-100 Equal Weighted Index (NDXE) and the NASDAQ-100 Ex-Tech Sector Index (NDXX). The company is replacing Life Technologies Corporation (LIFE).
In this case, the removal of Life Technologies doesn't offer a potential buying opportunity since Thermo Fisher Scientific (TMO) is buying the stock. This example is one of the rare times a stock leaves an index at the highs.
As for Green Mountain, the stock was included in the $80s after surging from trading in the low $40s prior to the exclusion back at the end of 2012. As the two charts below highlight, the index timing over the last two years couldn't have been worse:
Silence On K-Cup Sales
The even more interesting part about the Green Mountain story continues to be the questioned accounting behind the K-Cup sales. These single serving pods remain the crux of the business and the company intends to not disclose the numbers while analysts ultimately want that transparency especially after the company lost two critical patents on the pods.
This CNBC interview with Jesse Eisinger and further DealBo%k report from him highlight the magnitude of concerns with the lack of transparency regarding the K-Cup sales. The concern is that the company is reporting vastly more sales to customers than is actually being sold to consumers. In essence, the company is stuffing the channels to inflate sales.
The conclusion is that buying a stock leaving the Nasdaq-100 index is a great opportunity while selling the stock joining the index isn't a definite given. Further, the benefits of the concept of buying stocks removed from the index are to buy the basket of stocks. Some of the stocks joining the index have had great returns while some stocks leaving have gone on to underperform. In general though, the research backs up the theory that Green Mountain isn't the best stock to buy at the moment and the accounting questions only add to that theory of the stock peaking.
Additional disclosure: The information contained herein is for informational purposes only. Nothing in this article should be taken as a solicitation to purchase or sell securities. Before buying or selling any stock you should do your own research and reach your own conclusion or consult a financial advisor. Investing includes risks, including loss of principal.