As I begin August's installments of the "best" and "worst" series, let me invite SA readers to visit the latest update of "The Dugan Family Retirement Investing Plan" found here, in my SA Instablog.
Now, back to August's best CCC stocks. I use the Dugan Stock Scoring System to determine the "best all-around" CCC companies and then use filtering criteria I believe SA readers would value to identify stocks which could outperform the market. Those criteria are:
Being in the top Dugan-scoring half of the non-REIT and non-MLP companies on David Fish's "All CCC" list. Minimum yield of 2.3%. Minimum 8 years on the CCC list. Minimum $3B market cap. Maximum relative Graham number of 100. Maximum payout ratio of 80. Minimum most-recent dividend increase of 4%. Minimum estimated EPS growth next year of 4%. Minimum estimated EPS growth for the next 5 years of 4%/year
While filters 2 through 9 reflect individual preferences, the most important filter is number 1 because it assures I am filtering only very high quality companies.
The Dugan Scoring System is a tool to identify the overall quality of CCC companies. I believe there is a strong correlation between Dugan Scores and the quality of stocks. Those companies' stocks earning high Dugan Scores are high quality stocks which should produce better investing results, going forward, than otherwise would be attained by simply filtering for desired characteristics. In this context, highest quality means companies which have:
STRONG CURRENT CONDITIONS, as exemplified by: great value as measured by relative Graham number, low payout ratio, low debt/equity ratio and high Most Recent dividend increase %. EXCELLENT FUTURE PROSPECTS, as exemplified by: high EPS growth forecasts for This Year, Next Year and 5 years out, and excellent dividend growth histories.
The Dugan Scoring System isn't a popularity contest. It is a disciplined, systematic and dispassionate approach that evaluates each CCC stock on the basis of a wide variety of investment criteria from four broad categories: Risk, Value, Past Performance and Future Performance Expectations.
So, the purpose of the Scoring System is to determine the all-around quality of a stock for buying, holding or selling purposes. But, no stocks, like no people, are perfect. Even high quality and high scoring stocks have weaknesses, the same as low scoring and low quality stocks have some strengths. So, a Dugan Score is a balanced, holistic picture of a stock, which includes its strengths and weaknesses.
You can see from the above explanations, the Dugan Stock Scoring System is about the current state, and expected future performance, of a company's stock; not necessarily the company itself. And, it doesn't matter how well a company's stock has performed for its owners in the past. What only matters are the current condition and expected future performance of the stock.
The table below is a summary of the metrics used in the Dugan Stock Scoring System, along with each metric's relative weighting in the overall formula. The weightings are my assessment of each metric's relative importance in calculating the company's overall quality.
After calculating the Dugan Score, a small bonus, or penalty, is applied to the earned-score for each CCC stock, based on a few brokers' recommendations for current sector weightings. The base bonus or penalty calculation is simple: market weight earns zero points, overweight earns 1 point, underweight earns minus 1 point, net from each of the 3 brokers.
Using the Dugan Scoring System, and the above filters, yields the following companies as the highest scoring, filtered, August 2016 CCC companies:
Some readers have asked for a larger selection of high-scoring companies. The following list contains the highest scoring 20 CCC companies without any filters:
It's easy to see why most of the highest-scoring 20 stocks earned high scores. Compare their performance in each of the columns above with the metrics in the first table which explains the scoring system and you'll see why they made the unfiltered top 20 stocks list. But, that doesn't imply they are good for everyone. Maybe some of the top 20 have yields which are too low, or are in industries you would prefer to stay out of, or their market caps are too small. Whatever the reason, these lists are just the starting point to help SA readers quickly identify high quality stocks for further research and due diligence. It's also interesting to compare any of the above companies' metrics with the averages shown in the bottom rows.
Now, let's take a closer look at one of the higher scoring stocks in the first table, Assurant (NYSE: AIZ), a multi-line insurance company. With a market cap of $5B, a moderate 2.4% yield and a truly outstanding long-term dividend growth history, AIZ should be of interest to SA readers who desire a continuing growth of their dividends at a pace much faster than inflation. I recognize that 2.4% might be too low for many investors.
Looking at the CCC table above we see a 66.7% most-recent dividend increase, coupled with a 10, 5, 3 and 1-year dividend increase histories all in the significant double-digit range, and steadily rising form 10 years ago to now. That huge 66.7% m-r increase strongly suggests management and the board of directors are very confident for the future of the company. I personally like the 12-year streak of rising dividends as it means AIZ has raised the dividend through both of the last 2 recessions. AIZ's 42.7% EPS payout ratio and negative relative Graham are two more metrics suggesting a very strong current condition.
Let's take a look at a FASTGraphs (below) story to see if it confirms that strong current condition.
The graph shows a company with an investment grade credit rating of BBB+ and a very low debt/cap ratio of only 20%, both further supporting the strong current condition and giving faith that a continuation of double digit dividend growth id probable.
Looking at the red line, we see that since the height of the great recession an investment in AIZ would have returned a total rate of return of 342%, or 22% per year compounded (see large box insert). That' not too surprising since in early 2009 it was trading at a P/E of only 3.9 (see small box insert). While I like the rather continuous rise in price since 2009, it is a little troubling that its P/E at 13.4 is higher than its normal P/e of 10 and that during all that time it hasn't reached its fair value orange line. I suspect the explanation for that is because it's in the insurance segment and finance sector. But, that's why we do due diligence.
I think we've shown that AIZ has a strong current condition. But, what about its future?
Again from the CCC list above, AIZ's expected EPS growth is 20% and its 5-year expected EPS growth is 12% per year. Let's see if FASTGraph's information agrees with this bright future by looking at the graph below.
Looking at the graph below we see the analysts (only 4 of them) forecast an EPS growth of a very nice 8.8% per year (see blue circle). The red circle shows that EPS will grow from $6.58 in 2015 to $8.28 in 2018, after a dip to $5.93 in 2016.
Other than the unpopularity of the finance segment over the years since the great depression, I can't think of a reason the insurance segment and its constituent companies won't eventually rebound to a fairly normal P/E of 15 in the future. If that should happen, an investment in AIZ would return an annual rate of return of 20.24%, including both dividends and capital gains (see dotted line and box insert). Will that happen? Further due diligence would help answer that question.
I hope you enjoyed this journey. Comments are encouraged. Happy investing.
Disclaimer: The opinions in this document are for informational and educational purposes only and should not be construed as a recommendation to buy or sell the stocks mentioned or to solicit transactions or clients. Past performance of the companies discussed may not continue and the companies may not achieve the earnings growth as predicted. The information in this document is believed to be accurate, but under no circumstances should a person act upon the information contained within. We do not recommend that anyone act upon any investment information without first consulting an investment advisor as to the suitability of such investments for his specific situation. (Borrowed from Chuck Carnevale.)
Disclosure: I am/we are long PRU, BBY, ADM, BG, RAI, TGT, QCOM, VLO, LNC, THG.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.