Business

Want your stock picks to outperform index funds? Look at companies with a key metric.

Long-term investors are well served by index funds, which often charge very low fees and are difficult for active portfolio managers to beat. However, some investors want to select individual stocks for portions of their portfolio. Although they can be very difficult to choose, taking a long-term look at top financial professionals could be a great way to start your own research.

If your goal is growth, you might find quick success by trying to spot the next hot trend or set of trends that other investors haven’t yet spotted and bid on. Good luck with it.

A broad indexing approach worked well. For example, according to FactSet, the S&P 500 SPX has returned 554% over the past 20 years through February 9, for an average annual return of 9.8%. (All returns in this article include reinvested dividends.) In a note to clients on Feb. 12, Ned Davis Research analyst London Stockton wrote that a look at nearly 100 years of market data showed the S&P 500 had an average annual return of 10.2 had %, “at no cost.” He added: “There were no negative 20- or 30-year periods during this period, with 96.6% of the 10-year periods being positive.”

An easy way to get in on the US benchmark index is to hold shares of the SPDR S&P 500 ETF Trust SPY, which has an annual cost of 0.0945% of assets under management and an average return of 542% over the last 20 years has an annual return of 9.7%. There are also newer S&P 500 index funds with lower fees than SPY’s.

For individual stocks, a company’s return on invested capital can provide insight into how strong operating performance may correlate with good stock performance over the long term.

A canvas from 20 years

A company’s return on invested capital is its net income divided by the sum of the book value of its common stock, preferred stock, long-term debt, and capitalized lease obligations.

ROIC is an annualized number that shows how efficiently a management team allocates capital – in other words, how well it uses the money that investors have provided to run the company. This is not necessarily a fair way to look at performance, as different industries are inherently more capital intensive than others. But we don’t have to be fair when we take a comprehensive look at the stock market.

The book value of a company’s shares can be much lower than its current market capitalization. The company may have issued most of its shares many years ago at a price significantly lower than today’s price. If a company has recently issued a large number of newer shares or at relatively high prices, its ROIC will be lower. When a company has low debt, its ROIC is higher. When a company is forced to increase borrowing, especially when interest rates rise, its ROIC decreases.

Recently, as part of an analysis of the ten largest components of the S&P 500 by market capitalization, we included five- and ten-year ROIC reviews to determine which might represent the best value for investors.

But today we’re taking a more extreme approach and looking back 20 years.

FactSet calculates companies’ ROIC quarterly for rolling four-quarter periods. Because many companies have fiscal years that do not align with the calendar, the latest ROIC calculations include each company’s most recent four quarterly financial reports.

For a 20-year screening of the S&P 500, we started with current ROIC numbers, then moved on to four fiscal quarters, then eight quarters, etc., to create 20 12-month ROIC snapshots for our 20-year to obtain averages.

For the S&P 500, 20-year ROIC data is available from FactSet for 342 companies, and 20-year total returns are available for all but six. FactSet might have 20 years of ROIC data even for a company that hasn’t been publicly traded in 20 years: For example, Alphabet Inc.

GOOGL went public as Google Inc. in August 2004.

Of the remaining 336 companies in the S&P 500, these 20 have delivered the highest average returns on invested capital over the past 20 years:

Pursue

ticker

Average ROIC over 20 years

Average 10-year ROIC

Return, 20 years

Avg. 20-year return

Return, 10 years

VeriSign Inc.

VRSN

241.9%

460.9%

1,166%

13.5%

277%

Accenture PLC Class A

ACN

54.0%

39.9%

2,167%

16.9%

451%

AutoZone Inc.

AZO

36.7%

40.3%

2,884%

18.5%

401%

HP Inc.

HPQ

36.6%

63.7%

306%

7.3%

190%

Idexx Laboratories Inc.

IDXX

36.3%

47.6%

4,379%

20.9%

863%

Paychex Inc.

PAYX

36.3%

38.3%

531%

9.7%

306%

Yum Brands Inc.

Yummy

33.0%

40.3%

1,464%

14.7%

204%

Apple Inc.

AAPL

33.0%

37.5%

55,015%

37.1%

1,055%

Colgate Palmolive Co.

CL

32.6%

29.9%

382%

8.2%

73%

S&P Global Inc.

SPGI

32.5%

32.9%

1514%

14.9%

510%

Monster Beverage Corp.

MNST

32.5%

24.1%

51,682%

36.7%

388%

TJX Cos. Inc.

TJX

31.1%

28.1%

2,086%

16.7%

281%

Ross Stores Inc.

RUST

30.9%

28.9%

2,235%

17.1%

364%

Rollins Inc.

ROL

28.9%

26.7%

2,601%

17.9%

491%

Lockheed Martin Corp.

LMT

28.8%

29.9%

1,408%

14.5%

262%

FactSet Research Systems Inc.

FDS

28.7%

26.9%

2,279%

17.2%

414%

CH Robinson Worldwide Inc.

CHRW

28.4%

24.5%

455%

8.9%

80%

Tapestry Inc.

TPR

28.0%

11.7%

225%

6.1%

21%

NVR Inc.

NVR

27.3%

27.3%

1,461%

14.7%

527%

Automatic Data Processing Inc.

ADP

27.3%

33.6%

1,062%

13.0%

374%

S&P 500

SPX

554%

9.8%

237%

SPDR S&P 500 ETF Trust

SPY

542%

9.7%

235%

Source: FactSet

Click on the tickers to learn more about each company, fund or index.

Click here for Tomi Kilgore’s detailed guide to the wealth of information available for free on the MarketWatch offering page.

For comparison, the total returns and average annual returns for the S&P 500 and SPY are shown at the bottom of the table. Of these 20 companies, 15 have exceeded the 20-year return of the S&P 500. Apple Inc. AAPL has delivered the best 20- and 10-year returns. For 10 years, Apple’s returns have been twice that of the second-best player on the list, NVR Inc. NVR. And Apple’s 10-year average ROIC was higher than its 20-year average ROIC.

Mastercard Inc. MA would have made the top 20 list with a 20-year average ROIC of 37.6%, but the company didn’t go public until May 2006. The company’s average 10-year ROIC was 46.2%. The stock has returned 538% over the last 10 years.

VeriSign Inc. VRSN had by far the highest ROIC among the S&P 500. The company has an exclusive right granted by the Department of Commerce to maintain domain registrations for “.com” and “.net” Internet addresses. During an interview in September, Brad Klapmeyer, managing director and senior portfolio manager at Ivy Investments, said that VeriSign’s agreement with the trading division has changed in recent years to allow for greater flexibility in pricing and that the ease of doing business This requires the company to invest little capital to finance its business activities.

Do not miss: This fund manager has stopped worrying about the economy. Now it’s outperforming the stock market

Source: www.marketwatch.com

Show More

Robert Wilson

Business & economics analyst. Breaking down intricate financial trends for informed decision-making.

Read Next

Back to top button