New Year NAPS - Top Stocks for 2019 and the Symmetry of Risk

Wednesday, Jan 02 2019 by
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New Year NAPS  Top Stocks for 2019 and the Symmetry of Risk

Well it had to happen eventually didn't it? After a barnstorming 43% return in 2017, the No-Admin-Portfolio-System (NAPS) hit a wall in 2018. My musings on the benefits of ignorance last January led to nearly 100,000 reads over the year but, if private investor sentiment is anything to go by, I've a feeling that this year's more sober reflection may not prove as popular. I think this would be a shame, as it's in the harder times that the best investment insights are learned.

As usual, this is an extensive piece, ruminating on the sources of risk and return since the inception of the NAPS, reviewing the portfolio selection criteria and culminating in the list of 20 stocks for the year.

Yes, these are the "top stocks for 2019" according to my current NAPS criteria, but I have absolutely no crystal ball as to where each stock will go. Up, down, sideways, in circles - I have no idea. I know this is a controversial thought to traditional stock pickers, but the individual stocks don't matter to me. I wouldn’t bet my home on a single one of them. What matters to me is how the stocks have been selected, what traits they bring, and how they synthesise into a portfolio. The NAPS seeks the perfect portfolio, not the perfect stock.

What is the NAPS?

(Long term readers can skip this section.) The NAPS is a process that can be used once or twice per year to generate a stock market portfolio with a good chance of market beating returns. It's based upon a few fundamental principles:

  1. Behavioural Investing. Many stock market investors (myself included) are plagued by behavioural biases that can lead to investment mistakes. A disciplined, rule-based approach to stock selection helps counter these biases.
  2. Factor Investing. Market beating stocks are regularly driven by a common set of factors or traits (such as quality, value & momentum). We can screen the market for stocks with these traits to select potentially, market beating portfolios.
  3. Diversification. It's the only free lunch in investing. Since most investors either don't diversify or don't know how to, rigorous diversification helps avoid the risk of ruin and maximises the potential of profiting from factors.

In practice, it's a simple, rule based approach that generates a portfolio of 20 high ranking stocks from different market sectors. It's…

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Disclaimer:  

As per our Terms of Use, Stockopedia is a financial news & data site, discussion forum and content aggregator. Our site should be used for educational & informational purposes only. We do not provide investment advice, recommendations or views as to whether an investment or strategy is suited to the investment needs of a specific individual. You should make your own decisions and seek independent professional advice before doing so. Remember: Shares can go down as well as up. Past performance is not a guide to future performance & investors may not get back the amount invested. ?>


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59 Comments on this Article show/hide all

tom_chappell 17th Jan 40 of 59
2

Hi Ed - Thanks for another good article. I've decided to have to try running a NAPS portfolio this year. I tried replicating your selection process myself (i.e. applying the rules you've set out to define a list of stocks) and came up with a different (albeit overlapping) list. I'd be very interested in a guide / video to show how you use Stockopedia to apply the NAPS rules and come up with your list in practice. I have watched the NAPS Portfolio webinar where you demonstrate the "two by two" methodology, but I can see you've modified this approach now. I'd welcome seeing how the approach is applied in practice. 

A related query - How is the order of stocks within same Stockrank number determined (i.e. why are some Stockrank 99 stocks higher up the list / more highly ranked than others with the a score of 99)? I noticed that when I copy the top Stockranks across to a portfolio for the purposes of whittling down to a NAPS list, they seem to come up in a different order from how they appear in the Stockranks section, which made me reluctant to trust the new ranking order.

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Gromley 17th Jan 41 of 59
2

Hi tom,

I don't think there is a definitive prescription, nor probably need there be.
There are two factors though that would have given you a different list.

1. The date, StockRanks do change over time as new information (or just share price changes) come in. Therefore even if you a NAPs portfolio on today's SRs it will likely be different (in one or two selections at least) from one run even on yesterday's SRs. Ed constructed his NAPS in late December so it's no surprise that one run later will be different.

2. The point you allude to. How you sub sort stocks that have the same StockRank. As far as I understand there is no decimal point component to the StockRanks, so two stocks both rated 98 are considered exactly the same. This can make a difference as to which stock gets the last berth in a particular diversification bucket.
I don't know if Ed applies a secondary sort on his selections or whether it is luck of the draw as to which pops out of the machine first.
Personally I don't think it really matters and there's no real reason to believe that at that level any one portfolio option over another should be any better.

It's more in my mind about the high level purpose of the methodology.
1. Start with a high probability group of shares (those with high SRs)
2. Pick a diversified subset of them to broaden exposure and limit risk from cyclical factors.

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mmarkkj777 17th Jan 42 of 59
4

I don't know if anyone is tracking NAPS this year (Gromley, do you know?), but here is a screenshot of my Naps portfolio. Same stock selection as Ed's, but some bought a few days later.

So far its up about 0.5% with a few notable gainers, namely Mondi, Redrow and, you guessed it, Plus500.

images.stockopedia.com

5c4087b47e20bMJ_Naps_17_01_19.png



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purpleski 17th Jan 43 of 59

In reply to post #435568

-

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purpleski 17th Jan 44 of 59
4

Hi

As a follow up to my previous comment, as someone who trys to buy and hold for a longer period than a year of time and therefore the idea of selecting shares that I know I may have to sell in 365 days is a bit of an anathema, I thought I would look at Ed's NAPS from 2015.

Of the 10 NAPS as of today (16/1/2019) 5 are ahead, 4 are under water and 1 was sold back in Feb 2017 at 49% above the 1st Jan 2015 price. The portfolio as of today would be showing a 38.5% gain (assuming Dee held as cash) over 4 years excluding divis. About 8.5% per annum, which is not too bad (to calculate the divis and calculate the total return would be too time consuming but the current prospective yield of the 9 stocks is 2.36%). So by my calculations well ahead of FTSE100, FTSE All Share and the AIM but well behind Fundsmith.

By my calculations based on the chart above £10,000 invested in 2015 sold at the end of the year and reinvested in the new NAPS and so on would be worth £19,100. I think it is fascinating that this is almost exactly the same as the return Fundsmith has achieved and it is certainly an impressive performance.

Maybe this is just of academic interest but I post anyway.

Thank you for you column and unlike some I much appreciate the time and effort that goes into producing these.

Happy Investing for 2019

Michael

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mmarkkj777 17th Jan 45 of 59
1

In reply to post #437523

Hi Michael,

Yes that is a good comparison, especially as the Naps is re-balanced annually and Fundsmith is actively managed. Dealing costs would be lower with the fund. For your comparison, did you include divs in the Naps result?

By the way, Nick Train has done better than Terry Smith over the last few years, with lower costs, and is ahead since Dec too.

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purpleski 18th Jan 46 of 59

In reply to post #437573

Hi mmarkkj777

No I did not include divis. I don't have the energy or resources to dig those out and add them in but might guess them being worth another 2.5% per annum?

The other slight problem with the NAPS system is that it assumes that it is held within a tax free wrapper. Obviously it depends on the size of the investment but but take 2017. If you started with £100k. At the end of the year you are at £143k but tax would take a big bite out of this.

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mmarkkj777 18th Jan 47 of 59

In reply to post #438088

Hi Michael,

That’s true about the tax free wrapper for Naps, but applies equally to any fund held.

With dividends I make that the Naps outperforms both Nick Train and Terry Smith. With dividends more than compensating for the Naps higher dealing costs.

I’ve got both now in my passive acct, so will see at year end which I feel is the best approach. Well for 2019 anyway.

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pka 19th Jan 48 of 59

In reply to post #438143

Purpleski wrote: "The other slight problem with the NAPS system is that it assumes that it is held within a tax free wrapper. Obviously it depends on the size of the investment but but take 2017. If you started with £100k. At the end of the year you are at £143k but tax would take a big bite out of this."

mmarkkj777 replied: "That’s true about the tax free wrapper for Naps, but applies equally to any fund held."

Actually, that isn't the case mathematically. Let us assume that the NAPS portfolio and the fund have identical growth rates before tax. If one has to pay some Capital Gains Tax on the profits from a rebalanced NAPS portfolio each year, that reduces the effective growth rate of the NAPS portfolio. When that reduced effective growth rate is compounded over a number of years, the overall effective growth is much less than if the original growth rate before CGT were allowed to compound over the same number of years in a fund and CGT is only paid once at the end of those years. The annual CGT allowance complicates this calculation, but it is possible to only sell sufficient units from the fund each year to make use of one's annual CGT allowance and reinvest the proceeds in another fund with the same growth rate (if one exists).

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mmarkkj777 19th Jan 49 of 59

In reply to post #438198

Thanks PKA for that clarification.

appreciate it.

It’s ok in my case, but I can see it could make a difference over multiple years outside of a tax wrapper.
Cheers,

Mark. .

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Nick Ray 28th Jan 50 of 59
5

Just when Ed says he might be moving on from NAPS, I find I am getting increasingly intrigued by how well NAPS performs. But partly because I am not sure exactly how it does as well as it does!

For example, here is a comparison of the top quintile/decile/vigintile's performance in 2014-2018 taken from the Stocko performance charts (QVM, annual rebalance, mcap>£50M) but turned into a bar chart as per Ed's remarks about seeing a clearer picture. (NB: I have deliberately used overlapping groups here to try to see how changing the rule SR > x would affect the return of a 'typical' portfolio built by sampling from that range of SRs.)

5c4f2e536b4e5napsandstockrank20142018.pn


What is interesting is that NAPS has out-performed all of the top percentile grouping in three out of the four years. If it was just "sampling" from those top bands then we would not expect such a clear performance difference. And it seems unlikely that it is because NAPS is fishing from an even tighter percentile band (such as SR>97) because we know that in fact it does choose stocks with SR over a reasonably wide range due to the diversification rules.

Having said that, its poor showing in 2016 might be related to the fact that the 95-100 band completely flopped that year. (What happened guys?)

Conclusion: NAPS is about more than just picking the very highest SR stocks.

My own limited experiments suggest that there is a big benefit from the way that NAPS forms a "union" of stocks using slightly different criteria. (e.g. two from each sector, or a spread of market caps.) This union approach seems to work very well. I have found that you can choose almost any fundamental criteria to use for the union rules (e.g. a range of ROE) and get similar benefits.

I have even used random weights for a set of criteria with good results. Obviously it would be no good using random weights on useless metrics. But if you have a set of metrics which you believe are representative of "what makes a good stock" then randomly weighting them helps to "forgive" a stock which falls short on maybe one or two, and switches around what you care about enough to force a bit of variation in the types of stock your rules find.

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iwright7 28th Jan 51 of 59

In reply to post #441243

Nick,

A very interesting observation. You mention e.g. a ROE union giving a simalar SR outpreformance outcome, but were these “Good” factors limited to Quality/Momentum ratios? I assume that Value was struggling over the same period?

My feeling is that factors started to fail about 6 months ago ( esp Q4) because the “Good Company” factors were sold off alongside the Rubbish, as investors took profits and moved to greater cash. My own portfolio has improve tremendously in the last 4 weeks as Quality factors appear to be making a comeback, which I assume is because investors now believe that these companies are oversold? Thoughts?    Ian

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Nick Ray 28th Jan 52 of 59
2

In reply to post #441273

Valuation metrics are a whole story in themselves. Although it is "obvious" that you should not over-pay, it is not at all clear that Valuation metrics help with this. I have even experimented with selecting for low-V and compared it with similar rules but selecting for high-V and there is really not much difference in overall performance of the resulting portfolios. On the other hand, they don't seem to do any harm either if you combine them with rules selecting for Q and/or M.

2018 was a very odd year for Value metrics though. The NAPS portfolio started to droop from June onwards and that seems to be typical for portfolios built which include rules to select for high V. Portfolios based on QM which ignore V or select for low-V started to droop later - in September or October. But they all ended up at a similar point at the end of the year.

However I doubt whether this is a usable way to detect a market downward drift in the future. It may just be an oddity of 2018 in the same way that in 2016 the very-high Stock Ranks didn't do anything but the slightly lower ones performed very well.

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iwright7 29th Jan 53 of 59
4

In reply to post #441328

Thanks for the Valuation reply. Sometimes what should be obvious turns out not to be so!

I am away on holiday at the moment and during quiet moments have taken opportunity to listen (Audible book) again to Daniel Kahneman’s, Thinking Fast and Slow. He is of course famous for System 1 and System 2 decision making. One particular part got me thinking about the use of factor metrics in stock selection.

Kahneman recounted an early epiphany during his time in the Israeli army. He was assigned to a project to assess a recruit’s fitness for active service. Despite psychometric tests the Israeli army's interview and selection procedure at the time was; "almost useless for predicting the future success of recruits”.

Kahneman asked the army interviewers to ditch their existing approach and limit the interviews to a series of factual questions meant to generate a score on 6 separate personality traits. Within few months, it became clear that Kahneman's systematic approach was a vast improvement over gut decisions and was so effective that the Israeli army would use his exact method for decades to come.

What I found most interesting though was Kahneman’s observation that if the army interviewer having asked the same systematic questions was asked to “close their eyes” and to give a subjective interview score, that this “intuitive” scoring method was also found to be effective in predicting future recruit success to.

I do think that there is a case for substituting Kahneman’s systematic interview scores with individual ”good company” factors that go into each Stockrank score and the overall scores themselves. Then to close ones eyes (to engage more System 2 thinking) and to weigh up all the available information before coming to a buy decision. The above does also confirm my view that that a written pre-buy checklist will reduce investing mistakes. For those interested the book link is below. Ian

https://www.amazon.co.uk/Thinking-Fast-Slow-Daniel-Kahneman/dp/0141033576/ref=sr_1_1?s=books&ie=UTF8&qid=1548735331&sr=1-1&keywords=thinking+fast+and+slow

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Stuart Bates 30th Jan 54 of 59
1

Hi Ed,

Fantastic article.

NAPS is a great idea and glad to see it going so well.


Cheers

Stuart

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PJH123 17th Feb 55 of 59
2

Is their an easy way to follow NAPS as it progresses throughout 2019? Could it not be a Guru screen?

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Captain_Trader 21st Feb 56 of 59

I have a question, in an effort to remove the trading costs would it be possible to spread bet the NAPS folio with zero leverage? Example £10,000 account size over 20 stocks is £500 per stock ,imagine stock A is trading at 500p then you spread bet that stock at £1/point therefore requiring no leverage.Now the meat of the question, as you are not using leverage would you incur overnight charges? I understand you will miss dividend payments.

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skinner66 21st Feb 57 of 59

captain_trader i have my own portfolio on about 13 stocks but since dec 1 till now i have been playing spread bet on ftse, dax, wall street,, i put in 5k i do my own system is hard work and boring spend alot time , but i watch tv as doing so not really hard work on sofa lol.. so now my 5k is of tonight 8.3k.. so

made 3.3k in less than 3 months , what i like this is in my own hands shares are in the company   owners hands to run my profits, but this is a side line i tried, as you asked i tried went long on convatec monday banked £100 in 30 mins,, i could made more keeping, but id rather bank profits soon then maybe go in again if drops same day,, i do spend many hours aday selling and buying but i enjoy it,, i play chess for hours and computer takes hours at least this way i make money  also do  study shares you gunna spread on  or  its like playing fruit machine

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ISAallowance 21st Feb 58 of 59
1

In reply to post #450988

Yes, certainly on IG funding interest charge is charged on the entire value of the position, regardless of the amount of margin held against it.

However, you do receive dividend payments, on the ex-dividend day a dividend adjustment is made in the form of a payment to your funds.

For small positions, a non-leveraged spread bet might have cheaper trading costs than any real purchase, but this is not certain. I can't look up the actual spreads quoted on IG spreadbetting at the moment since markets are closed, but IIRC it was approx 0.5 percent each way greater than the market makers spread. So on a £500 position, an extra £2.50 each way. That is cheaper than any normal dealing charge, but you can normally deal within the MM spread with normal dealing. So on stocks with a wide spread you could soon start losing, say, 2% each way, which equates to a normal dealing charge.  And then you have to pay the funding interest, if you hold the NAPS for a year that's about £15/year on a £500 position, there are some normal platforms where you can deal cheaper than £7.50 each way so if you hold for a year you're behind with the interest even before considering the spread.  In summary, at £500 positions held for a year I think you'd probably be better off with a normal account.

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Captain_Trader 22nd Feb 59 of 59

In reply to post #451008

Thank you for your advice , probably best to look for a cheap platform then, I have seen some trading at £5/trade and stick with an annual re balance rather than quarterly

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