Is there a holy grail in portfolio management? How can you optimize your retirement enjoyment, or your children’s educational fund, or your estate?
With prevailing low interest rates, it seems that dividends are all the rage. “Maximize your dividend yield and you’re sure to have great portfolio returns.” Is this truth or just a myth?
Well, would you have a successful baseball team if you picked nine players with the best RBI’s? What if all players having the best RBI’s were close to retirement? Wouldn’t you want young players with RBI’s that were improving? Similarly it would make more sense to own stocks with improving or growing dividends, rather than high dividends that are not likely to grow much more.
And what if the players with high RBI’s couldn’t run or catch? Don’t you also need players who can catch a fly ball? And some who can run around the bases quickly? And others who can pitch? Equally, in addition to dividends that are growing, a stock portfolio should have stocks that contribute to the team return by growing at an above-average rate, by trading at below-average valuation with low risk, and by generating a high return on equity (ROE). Other measures that could be included in a multi-factor quantitative analysis are the ratio of price to book value, sales growth, gross profit, growth of earnings and cash flow and earnings per share.
In a stock portfolio, all of these qualities (or factors) can be combined with “quantitative analysis”. Quantitative Analysis is like a tool for a coach looking for the best players for his or her baseball team. In analyzing potential team members, a seasoned baseball coach realizes the relative weight he or she should give to RBI’s, catching ability, running speed, and pitching accuracy. Likewise, in analyzing stocks, an experienced portfolio manager with the help of Quantitative Analysis will be able to determine the relative weights to allocate to dividends, growth, valuation, risk and ROE.
And would you want to include on your team everyone who tried out? Or would you prefer to pick the few who are best? In the same way, it makes no sense to have hundreds of stocks in your portfolio. Narrow it down to the few that are best. 25 is just about right.
So, thinking ahead to summer — the next time you watch a well-oiled baseball team earn its way to the top of the league, think of your portfolio and whether the team of players or stocks could win the World Series.
Darryl Cailes is Executive Vice President at Enriched Investing Incorporated. He can be reached at firstname.lastname@example.org
This document is for information only and should not be construed as an offer, or a solicitation of an offer, to buy a security or investment service. Before making an investment, prospective investors should review offering documents which summarize the objectives, fees, expenses and associated risks.