The Norwegian Sovereign Wealth Fund (Norges) is the largest in the world. They manage over $1 trillion dollars and have some of the best investment research available.
In our upcoming course, Quantamentals: The Next Forefront of Trading and Investing, we will be applying fundamental characteristics that have historically produced excess returns and combining them with both technical and quantitative factors.
We believe “stacking” these approaches – fundamental, quantitative, and technical analysis, offers large edges in the marketplace.
Today, let’s look at the fundamentals side and look at the measurements Norges relies upon to manage their massive amount of wealth.
Invest In Quality Stocks
One fundamental factor which has delivered historical excess returns is known as the “Quality” factor.
In this issue of the Connors Research Traders Journal, we will define the quality factor, show you the three hallmarks of quality companies, and then share with you some common metrics to measure each.
What Exactly is Quality?
Quality is the belief that high-quality companies outperform low-quality ones over time.
High-quality companies are measured in a variety of ways. Some characteristics typically associated with high-quality businesses including strong profitability, low leverage, and stable earnings.
Three Ways To Identify High-Quality Companies:
1. Companies that are highly profitable.
Profitability is the hallmark of any quality company. You can measure this many ways including strong cash flows, returns from operations and growth of earnings. Some common ways to measure profitability are below:
- gross profits over assets
- operating profits over assets
- return on equity (ROE)
- return on assets (ROA)
- return on invested capital (ROIC)
- return on capital employed (ROCE)
- gross profit margins
- net profit margins
2. Companies that are stable and safe.
A quality company has a strong financial standing and high asset to debt ratios. Excessive leverage may jeopardize a company’s ability to service its debt and ultimately lead to financial distress.
Some common ways to measure stable companies are as follows:
- low leverage (e.g. low debt-to-assets ratio)
- high current ratios (current assets to current liabilities)
- high-interest coverage ratios
- high credit ratings from debt rating agencies
3. Companies that have predictable/stable earnings with little variation.
A stable and persistent stream of earnings can indicate that a company has a competitive advantage, superior management, and a dominant market position.
Some common ways to measure the stability and predictability of earnings include:
- volatility of earnings per share (EPS)
- volatility of EPS growth
- volatility of ROE
- volatility of ROA
- volatility of ROIC
Interestingly, our own research has shown that of the three, this one often leads to the largest edges when choosing stocks.
Going Deeper With The Largest Sovereign Wealth Fund In The World
We encourage you to read the highly educational white paper attached written by Norges Investment Bank, the sovereign wealth fund of Norway and the largest sovereign wealth fund in the world.
This paper delves much deeper into the various measures of quality. It reviews the academic research on this topic and shows the excess returns this strategy has produced through time. Finally, it goes into the reasons why high-quality companies have outperformed low-quality companies, including risk-based and behavioral explanations for the premium.
Quantamentals – Combining the Best of Fundamental, Technical, and Quantitative Analysis
We have incorporated the above fundamental knowledge and combined it with technical analysis, and quantitative analysis with the objective of building high performing portfolios.
To learn more, we encourage you to attend a free webinar we’re conducting titled Quantamentals: The Next Forefront of Trading and Investing.
You can listen to a recording of the webinar here.
More Knowledge To Improve Your Trading
1. Quantamentals Webinar
– Are you looking to learn more on how to apply Quantamentals to your trading and investing?
We’re conducting a 45-minute webinar on Monday, September 23 or Thursday, September 26 at 1 pm ET to teach you more about Quantamental Trading and to introduce you to the course we’ll be holding. You can listen to a recording of the webinar here.
2.Become a Master Swing Trader in 10 Weeks…
3. New Book! – The Alpha Formula – Beat The Market With Less Risk by Chris Cain, CMT and Larry Connors
The passive investment industry states there is no Alpha in the markets. This book proves them wrong!
The Alpha Formula – Beat The Market With Less Risk teaches you strategies and portfolios with historical Alpha in Stocks, ETFs, and Fixed Income.
Backed by many quantified, systematic strategies, dozens of academic studies and combining behavioral finance with Ray Dalio’s correlation research, this book will teach you new, easy to understand quant strategies you can apply immediately.
Larry Connors & Chris Cain, CMT