The Applied Finance Group’s (AFG’s) Investment Grade model is a dynamically weighted multi-factor model that incorporates Valuation, Momentum and Quality factors to come to simplified letter grades A-F for every company in our database. The weightings of each factor are adjusted monthly to ensure that the factors within the model that are adding the most value are weighted accordingly.
Solely focusing on companies with cheap valuations or positive or improving EMs adds a significant amount of alpha, however, we noticed that by combining these metrics in a multi-factor, weighted model, we greatly reduced much of the underperformance during momentum driven market environments and improved overall consistency. This allows investors to maintain a consistent process regardless of market environment rather than constantly switching to the next new trend, chasing returns and being late to the party.
Today we will highlight 15 companies from within the Russell 1000 index that currently earn an AFG Investment Grade of A, signaling that these companies rank in the top 20 percentile of the index in Investment Grade. Companies listed include Mastercard Inc. (NYSE:MA) and Delphi Automotive PLC (NYSE:DLPH) among others.
15 Russell 1000 Stocks – “A” Investment Grade
AFG Investment Grade
AFG provides investment professionals a multifactor model which incorporates AFG’s proprietary Economic Margin Methodology which combines Valuation, Quality, and Momentum. Valuation, Quality and Momentum factors are the three main tenets that every model should set out to incorporate.
LEVERAGING VALUE: Attempt to identify companies that will outperform a broader universe of stocks over a long-term time horizon.
NAVIGATING CONSISTENCY: Develop a strategy that will help generate more consistent portfolio outperformance in short-term increments (annual/quarterly performance).
BECOMING ACTIONABLE: Ensure that the final strategy selected has acceptable attributes that apply to real-world application.
OUTPERFORM THE BENCHMARK: Provide a select group of stocks from any group of companies globally that have the attributes that create alpha and outperform
Benefits of Using AFG’s Multi-Factor Grading Model:
- Effectively navigate through different market environments
- Save valuable time screening for investment ideas and creating focus lists of securities
- Uses a diverse and unique set of factors that are proven to outperform
Each factor that is used in AFG’s Investment Grade Model has shown to add alpha and is key to stock selection. These factors are then weighted according to their importance and ranked among sector peers. Then each company is assigned an overall score which is translated into a letter grade. Investment A Grade companies are the top 20% while Investment F Grade companies are the bottom 20%.
The end result is a quantitative approach to fundamental stock selection that works for long term investors while helping managers navigate difficult market environments.
Investment Grade Factors:
Economic Margin Momentum: (Helps Understand a Firms Improvement in Operations)
Economic Margin is a cash flow based measure that measures the return a company earns above or below its cost of capital and provides a more complete view of a company’s underlying economic vitality. Economic Margin framework takes into account Cost of Capital, Inflation and Cash Flow to provide a much more accurate representation of management’s ability to create shareholder value and provide comparability across sectors and countries.
Intrinsic Valuation: (Robust Approach that Correcting Many Distortions in Traditional Accounting Approaches)
When buying a company, investors are paying for existing assets and the company’s future expected performance. Traditional models that lock into perpetuity are making the assumption that a company’s performance will stay constant forever without facing the effects of competition. However research shows perpetuity is not economic reality. Traditional models also do not take into account the concept of sustainable growth – the rate at which a company can grow based on its internally generated cash flow less investments required to maintain and replace its asset base.
Management Quality: (Un-Biased Approach to Evaluating Management)
AFG scores each company’s management team on how its strategy links with its economic reality. Wealth creating firms should focus on growing, while firms that destroy wealth should divest and identify core competencies. This process is designed to flag firms that appear financially unstable well in advance of their bankruptcies.
Earnings Quality: (Identify/Flag Companies Likely to Have Negative Earnings Surprises)
Companies have an amazing degree of latitude in preparing their financial statements. As a result, a dollar of net income may not represent a dollar of cash flow. AFG score’s the quality of each company’s earnings to determine which are or are not sustainable into the future.
Price Momentum: (Measure Changes in Market Sentiment)
AFG utilizes both Price and Profit Momentum to invest in companies that are not only undervalued based on intrinsic valuation but also have favorable economic earnings revisions and price movement.