Catch a Falling Star?

Using statistical probability for investment gain

Experienced and informed investors know that successful stock picking over time is virtually impossible. All things in this world ‘regress to the mean when’ measured over a lengthy time span, or simply put, taken as a whole, everything is average. So on the whole you can’t beat the average. Or can you?

If all things approach the mean over time, that means (pun intended) that the bad stocks will become average, and great stocks will become average as well. Our research indicates that the growth rates of dividend investing superstars gradually decline from their peaks. This is not surprising in view of the law of regression. We can take advantage of this phenomenon to make profits, simply, without complicated trading techniques, shorts, puts, calls, and divination.

Being Picky Helps

Using our Dividend System™ Safeguards, we would of course only focus on stocks that are in the dividend paying universe, which means a stock that has increased its dividend payment every year for a minimum of five (5) years. Additionally we wouldn’t even think of investing in a stock that has a high debt-to-equity ratio; below one is preferred, but never over 1.2. Low payout ratios also protect our capital and our dividends, so a payout ratio of less than 66% is required. We also know that volatility is a mood killer for profitability, so a ßeta below 1 is necessary for a stock to be considered. Not picky enough yet? OK, throw in that Free Cash Flow growth rate must be in the positive territory, along with the dividend growth rate. It’s dividend growth investing after all. These criteria will give you a list of qualified candidates.

Using the Falling Star Concept

Now that we’ve limited our universe of potential stock investments to just the qualified candidates, and thereby protecting our capital from loss and ensuring dividend income and growth, we can use the falling star concept.

The falling star criteria we attach ourselves to is the 10 Year Free Cash Flow Growth Rate [10yFCFgr]. Our research indicates that growth in 10yFCFgr strongly correlates with High Total Return (0.78 correlation). The idea is to buy stocks that have the highest 10yFCFgr as they have a great chance to achieve a high total return, buying high and riding their high growth rate down. Riding down from 10-year and 5-year total returns in the low-to-mid 30%, it can be an enjoyable ride!

How to do it

Rank the qualified candidates using their 10 year free cash flow growth rate [10yFCFgr] from highest to lowest. Pick the stocks from the top of the rank for further analysis. If your portfolio needs more Consumer Defensive, pick the highest ranking one in that sector to study further.

Here’s the list of September 2019’s dividend stocks that are showing a value factor, ranked by their 10yFCFgr from high to low, based on today’s prices.

United Health Care (UNH) ranks highest for their 10-year compound annual growth rate. Gorman-Rupp (GRC) has the highest 10yFCFgr of 24.8% annualized, followed by Northfield Bancorp Inc (NFBK) at 24.1%, and Canadian National Railway Co. (CNI) at 17.8%.

Enjoy the ride!

Note: The author is long Hormel (HRL).