Most investors have probably never heard of the R-Squared Growth
Rate. And even fewer know what it means. (Ten years ago, you could
count me as one of them.)
But, now I do. I want you to know too. So let's get right to it.
The R-Squared Growth Rate is a measure of how close the actual
earnings come to the earnings growth on a regression basis.
In other words, how closely do the earnings conform to the
regression line? (Don't worry, I'll expound on this in a bit.)
R-Squared Growth Rate Explained
The range for an R-Squared value is between 0 and 1. (Or, if you
express it as a percentage, between 0% and 100%.) The higher the
value, the closer the data points conform to the regression line.
The lower the value, the worse it conforms to the regression line.
(In this example, the 'data points' are EPS growth numbers.)
A value of 1 means the data is a perfect fit - very rare to see. A
value of zero (0) is the worst, meaning the date is scattered
everywhere. In other words, if the data points are all over the
place, it shows there's no rhyme or reason for how the data is
coming in - extreme unreliability.
If, on the other hand, the data points are all plotting close to
the regression line, that shows there's less deviation from the
regression of the growth rate. And the less deviation there is, the
more reliable (you would think) those numbers would be.
Investors will use this item to get a sense of the stock's ability
to produce trendline EPS results. Of course there are no assurances
that future data points won't veer off course. But knowing how
closely matched the data points have been in the past is good to
What's interesting is that the distribution of the R-Squared values
for the stocks in the Universe is an inverted bell curve (or well
curve) distribution. (See below.)
Bell Curve and Well Curve Illustration
Usually, with a normal distribution (bell curve), the majority of
the data will be in the middle of the range, with the smaller
amounts of data falling on either side of the middle to form a
symmetrical bell curve.
A well curve (abnormal distribution) has the majority of the data
falling on either side with the smaller percentage of data in the
For example: nearly 25% of the stocks had a value of .33 to .66.
But roughly 38% of the stocks had lower values. And roughly 38% had
This distribution was the exact opposite of a normal distribution,
so I decided to test it.
Before I did (and before I saw the distribution), I had at first
thought that a ratio of 1 would be best and 0 the worst. But in my
testing along with other items, these proved to be less reliable.
What I did find, however, was a range that produced the
overwhelmingly best results. And that is: above the median with a
50% to 66% fit with the growth rate regression. And that's how
we're applying it in this screen, which is aptly called the
R-Squared EPS Growth screen.
So the screen I'm running today looks at the following parameters:
• Price greater than or equal to 5
• Volume (Avg. 20 Day Shares) greater than or equal to
• Zacks Rank less than or equal to 2
The Zacks Rank #1 and #2, Strong Buys and Buys, have handily beaten
the market over the last 26 years.
• R-Squared EPS Growth: In (range) between .50 and
Above the median and one of the best tested ranges, i.e., EPS
growth rates that show a 50% to 66% fit with the growth rate
• PEG ratio less than or equal to 1
If a stock is trading at a multiple higher than its growth rate, it
will have a PEG ratio over 1. (If it's two times its growth rate,
it'll be 2.) If it's lower than its growth rate, it'll be lower
than 1, and potentially be considered undervalued.
• P/E Using 12 Month EPS: In (range) 5 and 15
A top performing value range for this item.
• % Change Price over 4 weeks greater than -5%
Stock cannot have dropped more than -5% over the last 4 weeks.
Over the last 10 years, using a 4-week rebalancing period (and
using 4 different start dates to verify the screen's robustness),
this strategy produced an average annual return of 15.3% vs. the
S&P's 7.4%, all while assuming less risk and less volatility
than the market. (See below.)
R-Squared EPS Growth Screen (10 Yr. Study, 2004-2014,
Courtesy of the Research Wizard
What's even more impressive is that this screen gained an average
total compounded return of 14.2% during the devastating bear market
in 2008, while the S&P 500 lost -37%.
It should also be noted that while there's no specific limitation
placed on the number of stocks to come through, it'll typically
generate, on average, 3-5 stocks each period.
Here are 3 stocks from this week's screen (for Tuesday, 7/29/14):
Get the rest of the stocks on this list and start using the
R-Squared EPS Growth Rate in your own stock picking.
Plus, imagine your friends' faces when they ask you what your
secret is and you tell them the R-Squared Growth Rate. After some
blank stares and some head nodding (the kind when someone nods up
and down but has no idea what you're talking about), they'll think
you're a genius.
Sign up now for your free trial to the Research Wizard and become a
better stock picker today!
Click here for your free trial to the Research
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Disclosure: Officers, directors and/or employees of Zacks
Investment Research may own or have sold short securities and/or
hold long and/or short positions in options that are mentioned in
this material. An affiliated investment advisory firm may own or
have sold short securities and/or hold long and/or short positions
in options that are mentioned in this material.
Disclosure: Performance information for Zacks' portfolios and
strategies are available at:
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