Ten top quality stocks benefitting from broker upgrades

Monday, Aug 05 2019 by
53
Ten top quality stocks benefitting from broker upgrades

Despite ongoing Brexit uncertainty, the FTSE All-Share has actually been on a tear of late, up by more than 10% in the year to date. What’s more, on a forecast PE of less than 13 and a forecast yield of around 4%, it looks like there is plenty of room for growth - and the biggest success stories are sometimes not obviously cheap stocks, but high-quality operators with improving outlooks.

Top analysts and investors such as Warren Buffett and Michael Mauboussin say capital allocation - the deployment of company time, money, ideas, and people - is the key to building moat-like quality and profitability characteristics. It is perhaps the most fundamental driver of future share price performance. If you find a company that consistently allocates its capital profitably, chances are you are onto a long-term winner. Often, they end up getting classified as Super Stocks or High Flyers.

Unfortunately, CEOs are not generally promoted based on their ability to allocate capital, even though this is what they then go on to spend time doing. Buffett sums it up nicely in his 1987 letter to shareholders:

“Most bosses rise to the top because they have excelled in an area such as marketing, production, engineering, administration or, sometimes, institutional politics.

Once they become CEOs, they face new responsibilities. They now must make capital allocation decisions, a critical job that they may have never tackled and that is not easily mastered. To stretch the point, it’s as if the final step for a highly-talented musician was not to perform at Carnegie Hall but instead, to be named Chairman of the Federal Reserve.”

And from Mauboussin:

Capital allocation is one of management’s prime responsibilities. Yet few senior executives are versed or trained in methods to allocate capital most effectively. Further, incentive programs frequently encourage behaviors that are not in the best interests of long-term shareholders.

So if you’re only looking at sales and earnings growth, there is a vital question not being considered: how is this growth being funded?

Screening for upwardly mobile, high quality companies

That’s where ratios like return on equity (ROE) come in. ROE measures how efficiently a company uses Shareholders’ Equity to generate profits. It is calculated by dividing net income by book value of equity.

It’s no coincidence that Buffett is a fan of the measure - companies with high ROEs tend to exhibit the high-quality, moat-like…

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Diageo PLC is an alcoholic beverage company. The Company operates in various categories, including spirits and beer. Its geographic segments include North America; Europe, Russia and Turkey; Africa; Latin America and Caribbean, and Asia Pacific. Its principal products include Scotch whisky, Gin, Vodka, Rum, Beer, Irish Cream Liqueur, Wine, Raki, Tequila, Canadian Whisky, American Whiskey, Progressive Adult Beverages, Cachaca, Brandy and Ready to Drink. It manages its operations from various locations, including the United Kingdom; Ireland; Italy; Turkey; the United States; Canada; Brazil; Mexico; Australia; Singapore; India; Nigeria; South Africa; East Africa, and Africa Regional Markets. It also produces a range of ready to drink products mainly in the United Kingdom, Italy, South Africa, Australia, the United States and Canada. more »

LSE Price
3418p
Change
-0.1%
Mkt Cap (£m)
80,971
P/E (fwd)
23.9
Yield (fwd)
2.2

Dunelm Group plc is a United Kingdom-based company, which operates in the homewares market. The Company operates through the retail of homewares in the United Kingdom segment. The Company specializes in soft furnishings and other homeware. The Company also owns Dorma brand. The Company is a homewares retailer, which provides a range of products to its customer base, under the brand name Dunelm. The Company, through its platform, offers furniture, curtains and blinds, bedding, rugs and decors, and lighting. The Company's business operates from approximately 152 out-of-town superstores, approximately five high streets, and provides multi-channel convenience through online, mobile, catalogue, telephone ordering and reserve and collect propositions. The Company's online store features approximately 24,000 products. Dunelm (Soft Furnishings) Limited is the Company's subsidiary. more »

LSE Price
871.5p
Change
0.2%
Mkt Cap (£m)
1,757
P/E (fwd)
16.7
Yield (fwd)
3.4

RELX PLC is a holding company of RELX Group plc. RELX Group is a global provider of information and analytics for professional and business customers across industries. The Company operates in four segments: Scientific, Technical & Medical; Risk & Business Analytics; Legal, and Exhibitions. The Company's Scientific, Technical & Medical segment provides information and analytics that help institutions and professionals progress science and advance healthcare. The Risk & Business Analytics segment provides solutions and decision tools that combine public and industry-specific content with technology and analytics. The Legal segment is a provider of information and analytics to professionals in legal, corporate, and government organizations. Its Exhibitions segment consists of Reed Exhibitions, which is an exhibitions business, with events in over 30 countries. more »

LSE Price
1926p
Change
0.3%
Mkt Cap (£m)
37,351
P/E (fwd)
19.9
Yield (fwd)
2.5



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12 Comments on this Article show/hide all

stonor 4th Aug 1 of 12
1

Hi Mr Brumby .

Thankyou for your review of the RoE  .

Best wishes , Julia .

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simoan 4th Aug 2 of 12
3

Flipping heck!!! What is happening to this site? If I click on a link to view the SR of one of the companies highlighted in this article it tries to direct me to the new site, shows me a bit of the new-fangled SR and then logs me out with a "Come Back Soon" screen.

Sorry, I'm not impressed.
Si

| Link | Share | 1 reply
Howard Marx 4th Aug 3 of 12
8

Interesting Jack, but why did you choose ROE as a measure of 'Quality' ?

After all, a high ROE can instead highlight an absence of Equity - for example where a Balance Sheet is burdened with debt.

Surely the Stockopedia Quality metric is a better measure than ROE - to the extent that it utilises three ratios that compare profitability relative to total assets. 

For example, the ROIC of GlaxoSmithKline (LON:GSK) is 17% vs the ROE of 125%, which seems more realistic. The latter number suggests that GlaxoSmithKline (LON:GSK) has discovered the proverbial magic money tree!

Ranking by Quality rather than ROE introduces six new names, and four from your original list:

5d46d8a29c1b2ccccccc.jpg


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iwright7 5th Aug 4 of 12
4

Howard - I think your choice of Quality Rank, rather than ROE is inspired. Likewise instead of using positive 1y RS, which is backward looking, why not substitute this with the Momentum Rank (say M>90), which is designed to be predictive for outpreformance.

You could argue that the Momentum Rank score already includes 1y RS (and 1m Broker EPS upgrade) allocations, but it also contains Earnings Surprise and other Momentum elements too.

So if we take for example the highest Broker EPS upgrade from your new High Q list Instem (LON:INS), it scores 95 for Momentum - Lots of Green to be seen across a wide range of  Momentum components. 

P.S. I declare an interest because I hold 5/10 of your High Q/EPS upgrade list, including Instem (LON:INS)

5d47bfa5ea4abInstem.jpg



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Jack Brumby 5th Aug 5 of 12

In reply to post #500271

Hi Simoan,

The links should be working for you now - let me know if not.

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ACounsell 5th Aug 6 of 12
1

"Despite ongoing Brexit uncertainty, the FTSE All-Share has actually been on a tear of late, up by more than 10% in the year to date." I fear this statement may have been the cricket commentators curse (see Joe Root's dismissal in Test Match!). The FTSE All-share has lost nearly 6% since July 29th so it is rapidly retracing those gains. Is the perfect storm of Brexit, currency devaluation 'wars', Trump's trade war and associated global economic slowdown finally taking its toll. If so I fear the markets have a lot further to fall - knowing when to invest those excess cash holdings is going to make for interesting times!

| Link | Share | 1 reply
Jack Brumby 5th Aug 7 of 12

In reply to post #500281

Thanks for taking the time to draw this list up, and fair point that debt can inflate return on equity. Doing a quick DuPont analysis on GSK's ROE does show an outsized "assets / equity" (equity multiplier) part of the formula.

Using the Quality Rank looks like a good shout.

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Jack Brumby 6th Aug 8 of 12

In reply to post #500606

Cursed indeed! Quite the tumble we're experiencing - I've seen a few comments from people online saying they are happy to keep their powder dry for the time being.

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FREng 8th Aug 9 of 12

In reply to post #500321

lwright7 - how did you reach the Components of the Momentum Rank screen shown above. I can't find it.

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Tomc 8th Aug 10 of 12

FREng

One way is to click on the Momentum number in a list. Try for INS to compare, here.....

https://www.stockopedia.com/screens/richard-driehaus-screen-95/?view=8&region=gb#display

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parkin47 8th Aug 11 of 12

Seems to me the only stocks worth buying at the moment are gold miners that’s where the momentum is
Look at HGM POG CEY TSG SHG POLY long shot GGP

| Link | Share | 1 reply
herbie47 8th Aug 12 of 12

In reply to post #502231

A lot of Russian exposure there.

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