The Big Deal Experiment

The Big Deal Fantasy Portfolio game starts this Monday and I am looking forward to the competition but perhaps not in the traditional sense. There are several layers of competition in this game; individual (you versus all the other players), private league (we have a SK private league), company v company (our private league versus other private leagues). The overall winner of this type of competition normally requires some outlandish high risk punts and/or regular momentum trading, neither of which I have the time or the inclination for. I have decided to add another layer of internal competition by splitting my portfolio into two competing strategies; partly as an experiment to see which strategy is most successful over the year (note – the competition finishes on 31st May but I will track both portfolios until the end of 2014) and also to develop my portfolio management skills.

My overall aim is to create a portfolio that is low maintenance, balanced risk, and reliable growth that can be measured in relative terms by whether (and to what extent) it outperforms the FTSE All Share index and in absolute terms, I will be looking at a stretch measurement of trying to achieve an overall annual return of 25% or higher with minimal tinkering. Moreover, I will be looking to see if 75% or more of shares produce a gain and conduct both a quantitative and qualitative analysis of how each strategy performs.   

Strategy #1 – The Share Knowledge Segment (starting capital £50k)

I have decided to label the first segment ‘Share Knowledge’ as it will be based on my current approach to growth investing. As regular readers will know this involves identifying transitioning or transformational growth shares through in-depth research. The former category are companies transitioning into profit for the first time, the early stages of growing profits or recovering back into profit following a previous disaster or blip. The latter category are companies I believe are about to explode onto the scene – the gems that I think I have spotted before most other people catch on.

I will start with the 5 existing shares I selected for this year’s virtual growth portfolio (IOF, IAE, OPM, IDM, HAWK) and possibly make occasional in/out trades during the year with constituents from my watch list or other candidates that I identify along the way.

Strategy #2 – The Stockopedia Segment (starting capital £50k)

I recently wrote about the powerful analytical tools that are available on Stockopedia. As I have used these analytics to select candidates for this strategy, ‘Stockopedia’ seemed an appropriate label for it. This segment is a mainly mechanical strategy based on a series of filters:

- My own evolving GARP (Growth at a Reasonable Price) criteria. I plan to write more about these criteria in future articles.

- Stockopedia overall stock rank (mix of value, quality and momentum) of 90% or higher

- Pass at least 1 of Stockopedia’s pre-defined guru screens

- Magic Formula score of A or B (based on Joel Greenblatt’s magic formula strategy)

I have also gone for sector diversification (no more than 2 stocks from any sector) and overridden my rules slightly on a couple of selections (GVC & PRP) for reasons I will explain later. What I haven’t done (but what I would do if I were investing real money) is any detailed research beyond the analytics other than at a fairly superficial level (i.e. to help me understand the data). I have selected 10 stocks in this segment and will periodically review against the criteria, selling out if the metrics deteriorate or if other compelling candidates come to the fore. Below is a brief breakdown of the 10 stocks:

Dart (LON:DTG)
Stock Rank = 97
Magic Formula = A+
Pre-defined screens = 8 guru screens 
Sector = Travel

Empresaria (LON:EMR)
Stock Rank = 99
Magic Formula = A-
Pre-defined screens = 2 guru screens 
Sector = Recruitment

easyJet (LON:EZJ)
Stock Rank = 96
Magic Formula = B+
Pre-defined screens = 4 guru screens 
Sector = Travel

GVC Holdings (LON:GVC)
Stock Rank = 85 
Magic Formula = B+
Pre-defined screens = 2 guru screens 
Sector = Gambling
* I have overridden the stock rank criterion due to the exceptional dividend yield of over 10% and an educated gamble that if GVC continue to make reliable, quarterly dividend payments, they will attract an increasing number of income investors. 

JD Sports Fashion (LON:JD.)
Stock Rank = 98
Magic Formula = A-
Pre-defined screens = 6 guru screens 
Sector = Retail

Prime People (LON:PRP)
Stock Rank = 100
Magic Formula = A+
Pre-defined screens = None
Sector = Recruitment
* I have overridden the lack of guru screens due to the metrics being so strong across the board. I want to learn more about this anomaly and see how things pan out during the year.

RM (LON:RM.)
Stock Rank = 99
Magic Formula = A+
Pre-defined screens = 4 guru screens 
Sector = Education

Renew Holdings (LON:RNWH)
Stock Rank = 99
Magic Formula = A-
Pre-defined screens = 5 guru screens 
Sector = Construction & Engineering

Steppe Cement (LON:STCM)
Stock Rank = 98
Magic Formula =B+
Pre-defined screens = 2 guru screens
Sector = Construction Materials

Total Produce (LON:TOT)
Stock Rank = 98
Magic Formula = B+
Pre-defined screens = 4 guru screens
Sector = Food (fresh produce distribution)

It is interesting to me that only 2 of the 10 stocks (EZY and GVC) had appeared on my radar before I began this exercise. My sense is that most of them will provide steady rather than spectacular growth. It is also worth noting that they all pay a dividend. Conversely, none of the 5 Share Knowledge stocks score very well on Stockopedia’s screens. For comparison purposes, I have shown these below:

Nighthawk Energy (LON:HAWK)
Stock Rank = 37
Magic Formula = D-
Pre-defined screens = 1 guru screen 
Sector = Oil & Gas

Ithaca Energy Inc (LON:IAE)
Stock Rank = 39 
Magic Formula = B+
Pre-defined screens = 2 guru screens (1 short)
Sector = Oil & Gas

Inditherm (LON:IDM)
Stock Rank = 40
Magic Formula = D-
Pre-defined screens = None
Sector = Medical & Industrial Supplies

Iofina (LON:IOF)
Stock Rank = 6
Magic Formula = D+
Pre-defined screens = 1 guru screen (short)
Sector = Iodine & Specialty Chemicals  

1pm (LON:OPM)
Stock Rank = 68
Magic Formula = n/a 
Pre-defined screens = None
Sector = Finance

It is understandable that these stocks do not make the cut on a metrics basis. In their own way, they provide growth opportunities but my strategy revolves around investing in the company’s business plan at or around an inflexion point. Few metrics will be visible (especially with smaller companies who do not have strong analyst coverage) and therefore I am, in effect, trying to be my own analyst vis-à-vis forward earnings that are not yet visible to either the casual observer or metric based stock filters. 

Strategy #3 – The Wild Card Segment (starting capital £5k)

My £100k starting portfolio has been enhanced by £5k as an early bird bonus so I am taking the liberty of including a wild card segment. There is no real strategy here, I plan to trade this £5k at my leisure based on whatever takes my fancy. My first play will be Thorntons Thorntons (LON:THT) where I am hoping for a positive Christmas trading statement in the near future.

Let’s be clear, there is no way this portfolio experiment will win the Big Deal game. I also accept that from a scientific perspective there are flaws in some of the experiment’s parameters. However, I do think it will be an interesting exercise and a useful learning experience. Although as Albert Einstein once remarked:

“No amount of experimentation can prove me right but a single experiment can prove me wrong”

I also hope the portfolio is successful in achieving its overall aim of low maintenance, balanced risk and reliable growth – I would hate to let the SK team down! I will update on progress and offer my observations periodically throughout the year. 

Disclosure – I currently own shares in IOF and HAWK. I do not own shares in any of the other companies mentioned in this article.