Many stock market traders follow “momentum” strategies that focus on buying stocks in line with the trend in their price movements. Prices have strange but predictable behaviour… a price that has been moving up in the recent past has a strong tendency to continue moving up in the near future. Trend trading has been show in dozens of research papers and in the fortunes of many traders to work incredibly well.

But while traders have developed a legion of indicators, such as relative strength or moving averages, to spot companies showing momentum in a company’s price rarely have they developed or understood indicators that highlight the momentum in a company’s fundamentals. Surely if such an indicator existed it would also have some kind of predictive quality?

The truth is that just such an indicator does exist and a body of research is now building that show it to be an astonishingly predictive indicator of long term company health and share price movements. But in spite of this, it is still largely misunderstood or ignored by most investors.

Enter Fundamental Momentum

The indicator in question is known as the F-Score and its origin I will explain shortly. It is extremely simple to calculate for a single company as it’s a checklist of nine rules that a company either passes or fails to create a score between zero and nine (see the bottom of this page for details). Each of these rules looks at one aspect of a company’s financials, with six of the nine rules looking at the change in a company’s financials. Whereas most ratios look solely at a company’s current financial state, the F-Score looks more deeply into the direction in which it’s financial state is moving, and herein lies it’s secret sauce - it captures fundamental momentum in a single number. (See this article on How to calculate the F-Score).

It was developed by Josef Piotroski, a Stanford Finance Professor, in the 1990s who wished to figure out how to separate the wheat from the chaff amongst bargain stocks. In the bargain basement of the stock market there is a huge variability of returns as when stocks get beaten down they either recover magnificently, dawdle or just go dramatically bust. Piotroski developed the F-Score to discover which companies in this segment of the market were most likely to recover, with astonishing results.

Piotroski’s classic strategy,…

Unlock the rest of this Article in 15 seconds

or Unlock with your email