It's no secret that value stocks tend to lead the way at the
beginning of bull markets, while higher growth stocks tend to take
control as the bull matures. It makes sense. Value stocks tend to
be more risky -- that's why their valuations tend to be much lower
than those of high-growth stocks. So in bear markets, when fear and
pessimism reign, those perceived riskier plays tend to get hit
harder. Then, when the fears subside, they are the first to bounce
When you get deeper into a bull market, the low-hanging,
beaten-down value plays have rebounded, and investors tend to look
more at fundamentals and quality. It's no surprise then that, with
the bull market now more than four years old, my Martin Zweig-based
Guru Strategy -- which runs a stock through a variety of strict
earnings growth tests -- has been one of my best performers in
2013. But what has been a bit of a surprise is the magnitude of its
gains. While the S&P 500 is up about 23% year -to-date, my
10-stock Zweig-based portfolio has gained about 62%.
Zweig, who passed away earlier this year, was a legend in the
investing world. He made his mark in a number of ways, from
predicting the 1987 market crash just days before it occurred, to
pioneering the put/calls ratio, to coining the phrase "Don't fight
the Fed", to owning what at one time was the most expensive
apartment in New York City (a $70 million penthouse).
While I never met Zweig, he impacted me personally through his
book Winning on Wall Street. In it, Zweig laid out his strategy for
picking growth stock winners, a strategy that formed the basis for
my "Growth Investor" model. The approach looks at numerous
criteria, most of which focus on earnings. They include:
Earnings per share should be growing by at least 15% over the long
term (I use an average of the three-, four-, and five-year EPS
growth rates to determine a long-term rate); a growth rate over 30%
EPS growth for the current quarter (vs. the same quarter last year)
should be greater than the average growth for the previous three
quarters (vs. the respective three quarters from a year ago). EPS
growth in the current quarter also should be greater than the
long-term growth rate. These criteria made sure that Zweig wasn't
getting in late on a stock that had great long-term growth numbers,
but which was coming to the end of its growth run.
Earnings per share should have increased in each year of the past
five-year period; EPS should also have grown in each of the past
four quarters (vs. the respective year-ago quarters).
Quality of Earnings:
Zweig wanted earnings growth to be sustainable. That meant it was
driven by revenue growth, not cost-cutting or other non-sales
measures. It also meant that it wasn't driven by large amounts of
debt. My Zweig model requires a firm's long-term revenue growth to
be at least 85% of EPS growth (or at least 30% a year, since that
is still a very strong revenue growth rate), and it wants sales
growth for the most recent quarter (vs. the year-ago quarter) to be
greater than the previous quarter's sales growth rate (vs. the
year-ago quarter). It also targets stocks whose debt/equity ratios
are lower than their industry average.
Be aware that Zweig was willing to pay a premium for strong
growth, but only to a point. The model I base on his writings
requires a firm's P/E ratio to be no greater than three times the
market average (currently about 16), and never greater than 43 (no
matter what the market average).
Zweig also relied a good amount on technical factors to adjust
how much of his portfolio he put into stocks. But over the years,
I've found that using only the quantitative, fundamental-based
criteria Zweig outlined in his book can produce very strong
results. My Zweig-inspired 10-stock portfolio has returned 208.8%,
or 11.6% per year, since its July 2003 inception, while the S&P
500 has gained just 75.1%, or 5.6% per year (through Oct. 24).
If you believe, like me, that the bull market has more room to
run, then the Zweig-based approach could be a good one to continue
to focus on, given where we are in the bull run. Here are a handful
of stocks that it's currently high on. As always, you should invest
in stocks like these as part of a broader, diversified
Cognizant Technology Solutions Corporation (
This New Jersey-based IT and business process outsourcing company
($26 billion market cap) has been growing EPS at an impressive
24.4% rate over the long term, and that's been supported by strong
revenue growth of 28.5%. The firm also has no long-term debt and
trades for a reasonable (given its growth) 23 times earnings.
Michael Kors Holdings (
Who says the Great Recession meant the death of the consumer? This
trendy clothing designer/retailer ($16 billion market cap) is proof
it didn't, as it has grown EPS at a 110% pace over the long term.
Sales growth hasn't been quite as strong but it's still been
impressive, at 54%. The firm has upped EPS in each year of the past
half-decade, and also has no long-term debt.
Qualcomm Inc. (
This San Diego-based tech firm introduced CDMA technology back in
the late 1980s. Today, its technology is used in cell phones around
the world, and recent growth has been strong. Its long-term growth
rate of 21.2% accelerated to an average of 25.9% in the three
quarters before last quarter, and then jumped to 30.4% last
quarter. Sales growth also accelerated last quarter, rising to 35%
(from 24%). And the firm had no long-term debt. All of that for a
price -- 17.8 times EPS -- not much higher than the market
Dick's Sporting Goods, Inc. (
This Pennsylvania-based sports and fitness retailer has been
expanding and now has nearly 550 Dick's stores and more than 80
Golf Galaxy stores across the United States. The firm ($6.5 billion
market cap) has grown earnings at a 19.1% pace over the long-term.
That accelerated to 55.8% last quarter. Dick's also has a
debt/equity ratio of less than 1% ( versus the specialty retail
industry average of more than 70%), and at less than 20 times
earnings, its price is quite reasonable.
Amtrust Financial Services (
Founded as a workers' compensation insurance firm, this New York
City-based company has expanded into a multi-national property and
casualty insurer. It specializes in coverage for small
Amtrust's long-term growth is just shy of the Zweig-based
model's target, at 14.4%. But that growth has been accelerating --
it was 54.5% in the three quarters before last, and then jumped
again to more than 96% last quarter --and it had been supported by
strong revenue growth. In fact, while financial firms often
engineer strong earnings out of mediocre revenues, AFSI 's
long-term revenue growth (32%) more than doubles its EPS growth,
and that accelerated to more than 65% last quarter. Plus, shares
are cheap, at just 11.4 times EPS.
I'm long CTSH, KORS, QCOM, DKS, and AFSI.