mercredi 24 août 2016

The power of the ROE

Recently, someone sent me the link to a very interesting article about ROE champions.

The article is here, on motley fool.

Here's a few interesting lines:


***

Experience, however, indicates that the best business returns are usually achieved by companies that are doing something quite similar today to what they were doing five or ten years ago. That is no argument for managerial complacency. Businesses always have opportunities to improve service, product lines, manufacturing techniques, and the like, and obviously these opportunities should be seized. But a business that constantly encounters major change also encounters many chances for major error. Furthermore, economic terrain that is forever shifting violently is ground on which it is difficult to build a fortress-like business franchise. Such a franchise is usually the key to sustained high returns.

Inspired by that excerpt, every year, I conduct a modern day re-creation of that same study, by going page-by-page, through all the companies that Value Line covers. I screened by hand for companies with: 1) a 10 year average ROE over 20%, AND 2) Zero years in the past decade with a ROE below 15%.

Just 145 out of 1705 companies (or 8.5%) passed both of these two hurdles from 2004-2013.

***

When I was studying at the magnificient Université Laval, my statistics teacher told us that we could get a very good approximation of a population by selecting randomly 30 subjects.

So, to understand the real power of the ROE, here’s 30 randomly selected stocks among those 2004-2013 ROE champions and their results for the last 5 years and the last 10 years (from 2011 to 2016 and from 2006 to 2016). At the end, we can see the performance of the TSX/S&P overt the same period. 

I haven’t done the test, but the results would probably have been very similar if I’d pick 30 other stocks among the list.

As you can see below, very few high ROE stock achieve poor performance. Out of 30 stocks, only two achieved a loss over a 5 years period and one stock achieved a loss over a 10 years period.


Ticker
Perf. 5 years
Perf. 10 years
ADP
93
92
AMGN
233
161
BDX
127
153
BLL
139
310
BOH
86
43
CI
218
264
COH
-16
26
COKE
158
167
CSCO
104
44
DD
68
85
EL
107
419
GPS
67
62
IDXX
202
397
JCOM
136
170
K
57
67
KMB
104
118
LH
79
101
MDT
182
94
MIDD
460
899
MMP
148
281
MSFT
141
126
NUS
65
248
OMC
129
94
ROK
121
96
SBUX
223
274
STRA
-40
-50
TUP
11
280
VAR
81
82
WMT
38
63
YUM
81
273
Average (%)
120,1
181,3
TSX (%)
20
21


You see, Joel Greenblatt was right. You just have to select randomly among the business that get the highest ROE and that's all (however, Greenblatt said that a low PE was very important, which is not the case here).

In this example, you’ve beaten the market by 100% over 5 years and by 160% over 10 years.

Why should you care about moat and margins and all that fucking shit when you can get a 16-17% yield each year with such a recipe? Why bother with « dogs of the dow » strategy or any other strategy? Select the companies that get the more money year after year and that’s it. That's so fucking obvious and simple. 
That's the power of the ROE.

8 commentaires:

  1. Great post. Is there a means by which retail investors can calculate ROEs of companies over the past 10 years from today for free?

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  2. On morningstar, You can find this information.

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  3. I want to bring your attention to one of these companies.

    (MIDD) The Middleby Corporation designs, manufactures, markets, distributes, and services commercial food service, food processing, and residential kitchen equipment.//

    They sell kitchen equipment for commercial use (and for residential). They had a $2 Billion market cap not too long ago. They are up to about $7.5 B market cap now. The CEO is just like the CEO of constellation software (able to make hundreds of acquisitions and still maintain a pretty high ROE). No drama and no excitement. People have to eat. They do not compete against hundreds of other restaurant chains. they sell the equipment to all of them.

    The business is boring as hell. The stock always seems A LITTLE BIT expensive. But they just keep compounding.

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  4. Interesting. Thank you for the details.

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  5. Here's an awesome read on Middleby

    http://www.oldschoolvalue.com/blog/stock-analysis/middleby-corporation-midd-case-study-of-an-intelligent-fanatic-led-100-bagger/

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    Réponses
    1. Do you find "old school value" worth the cost?

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  6. The Middleby story was awesome. I like it a lot. Do you guys know whether there are any other CEOs like Mark Leonard or Selim Bassoul? Those can be permanent stocks.

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