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The objective of the Potency Score System, which I introduced in October, is to rank dividend growth stocks according to their potential for sustaining and returning the highest dividend value to shareholders. These companies tend to have been paying dividends for many years and consistently increasing it. Since growth of dividends requires earnings growth, these companies tend to produce respectable capital gains as well.

Using a multitude of fundamental data and metrics and their interrelations, the system calculates and assigns a Potency Score to each stock. Empirical data as well as theoretical concepts are applied throughout the system. The higher the score, the higher the potential for better dividend returns.

The system has been rapidly evolving and now has little resemblance to when I first introduced it. This month's list of stocks with the highest Potency Scores is the product of the new Version 4.4.

I have also published another equities investment strategy, The Immortal Portfolio, for those who prefer a less hands-on approach, using Exchange Traded Funds ((ETFs)) instead of individual stocks.

New System Enhancements

There are significant enhancements to the methodology in the new version 4.4 from last month's version 3.0. One such enhancement is adjustments for the 3-way interrelation among price to earnings ratio (trailing twelve months), P/E ratio (forward), and P/E ratio (five-year average). In addition to score adjustments based on the values of P/E ratios individually, one formula I've devised that allows for score adjustments based on their interrelations is the following:

(P/E TTM - P/E Fwd) / [(P/E Fwd)/(P/E 5-yr Avg.)

This can be looked at as a value metric and a growth metric combined. The higher this value, the better. Another new metric for score adjustment is the following:

(ROE TTM / ROE 5-year Avg.) + (ROA TTM / ROA 5-year Avg.)

ROE being the return on equity and ROA, return of assets. In addition to separate adjustments for ROE and ROA individually, this metric adds more nuance to the score calculations. Version 3.0 only accounted for ROE individually. Additionally, the fine tuning and refining of the various parameter weights and calculations is ongoing.

These are just a few of more than a dozen new improvements in this version. Because of the many newly added variables, you may notice a more substantial change in the list's constituents for this month compared to last month.

The Metrics

The Potency Score System (version 4.4) uses the following metrics, both individually as well as in combinations with other variables.

· Current Dividend Yield

· Dividend Growth Rate (DGR) for 1-, 3-, 5-, and 10-year periods

· Projected annual Earnings per Share (EPS) growth rate for the next five years

· Payout Ratio

· P/E Ratio (TTM, Forward, and 5-year average)

· Return on Equity (ROE) (TTM and 5-year average)

· Return on Assets (ROA) (TTM and 5-year average)

· Dividend to Free Cash Flow Ratio

· Revenue Growth (1-year and 3-year)

· Debt to Equity Ratio

Additional metrics are under study and examination and will be introduced into future versions of the System.

Sources of data - I have expanded my sources of data. The four DGRs for 1-, 3-, 5-, and 10-year periods and the $dividend amount continue to come from David Fish's invaluable CCC List. The rest of the data come from various financial sources, including Fidelity Investments, TD Ameritrade, Yahoo Finance, Google Finance, Morningstar, etc. I have tried to use the most reliable sources, and where data was unavailable at one source I have tried to obtain it from another.

The System Geared Towards Income Not Growth?

I have been asked whether the system heavily leans towards dividends and income rather than growth. As you can see in the list of metrics used, the system relies substantially on metrics such as the projected 5-year earnings per share growth rate, return on equity and return on assets (TTM as well as 5-year averages for both), free cash flow, and revenue growth (1-year and 3-year). All of these are growth metrics.

The highest scoring stocks tend to fall into three categories:

· Above average dividend yield and above average growth rate

· High dividend yield, somewhat low growth

· High growth, somewhat low dividend yield

To be able to pay regular dividends and keep increasing those dividends, a company must be growing its earnings. So, as you can see, dividend growth stocks have to be growth stocks, albeit some with very slow growth, but nonetheless, must have a growth component. Now without further ado, here are the top 25 stocks for January. To see the rest of the list please see my blog, here.

Top Stocks For January

Data as of close Friday, 01/06/2012

Sym

$ Price

Ver. 4.4

Potency

Score

%Div

Yield

(Fwd)

% Proj

EPS

Growth

5 Year

% ROA

(TTM)

Price /

FCF

(TTM)

%Payout

Ratio

(TTM)

TWGP

20.60

28.50

3.64

17.00

2.71

n/a

30.79

NPK

94.34

24.95

8.74

n/a

15.30

14.40

12.12

NVS

57.31

20.63

4.11

5.58

7.94

11.49

46.72

STRA

96.69

20.55

4.14

10.39

31.80

11.03

42.79

CEO

194.75

20.34

3.29

3.93

16.59

n/a

28.36

LMT

79.98

19.53

5.00

7.63

8.34

11.15

37.03

TCAP

19.21

18.40

9.79

4.00

4.54

-4.27

58.70

MDP

31.54

18.15

4.85

9.67

7.44

7.96

35.75

INTC

25.25

18.07

3.33

10.99

18.14

12.08

31.59

RTN

48.08

17.82

3.58

9.65

7.53

12.60

32.82

AZN

46.97

17.76

5.75

-0.68

14.35

8.33

37.21

BBL

60.26

17.69

3.35

9.10

22.98

5.27

21.32

EOC

45.00

17.15

4.60

n/a

8.84

0.02

n/a

NTT

25.52

16.94

3.22

6.54

2.59

0.05

14.86

COP

72.66

16.49

3.63

4.80

7.27

13.36

32.48

GES

29.90

16.46

2.68

15.20

17.17

12.02

27.02

THG

34.27

16.20

3.50

15.00

1.22

n/a

113.35

ACN

51.83

16.09

2.60

11.60

14.48

10.75

34.85

WAG

33.08

15.74

2.72

9.81

9.89

14.81

27.15

DRI

44.34

15.65

3.88

12.28

8.71

26.53

40.97

AFL

44.24

15.31

2.98

11.73

2.04

n/a

30.46

BHP

72.45

15.29

2.79

6.31

22.98

6.58

21.32

PNNT

10.46

15.17

10.71

3.67

1.11

n/a

445.83

HRS

37.18

14.87

3.01

7.67

9.53

15.66

23.45

RCI

37.89

14.70

3.68

8.97

8.82

11.47

48.68

The table columns are: Stock symbol, $Price, Potency Score (produced by Ver. 4.4), %Dividend Yield (forward), %Projected earnings per share growth for the next 5 years, Return on assets (trailing 12 months), Price to free cash flow, %Payout ratio.

Source: Potency Score System: Best Dividend Growth Stocks For January

Additional disclosure: I may initiate a long position in one or more of the stocks discussed over the next 72 hours. Disclaimer: Do not treat this as a buy or sell advice. These are my opinion and ideas, not advice. Please do your own due diligence.