This blog is part of a new series on Institutionalinvestor.com entitled Global Market Thought Leaders , a platform that provides analysis, commentary, and insight into the global markets and economy from the researchers and risk takers at premier financial institutions. Our first contributor in this new section of Institutionalinvestor.com is AllianceBernstein, who will be providing analysis and insight into equities.
Like many growth investors, our growth-stock team has long wrestled with when to take gains, since high fliers tend to lose their edge. It can happen fast: our research suggests that a growth stock typically holds on to its status for only three to four years before company earnings regress, usually under the weight of new competition. When that happens, the stock price tends to drop like a rock. So, for growth investors, deciding when to exit a position looms large. Indeed, our models suggest that avoiding just one stock in the bottom two deciles of performance each quarter would add 50 to 100 basis points of annual outperformance.
While we believe that there’s no substitute for deep understanding of a company’s operations, management and competitive strengths, the factors that can prompt investors to begin repricing a stock, may not always be immediately evident in fundamentals. That’s where quantitative signals of trouble on the horizon can help.
Not that the growth universe is monolithic or that one set of sell signals fits all. Stocks migrate from early growth to mature growth. And like all stocks, growth securities may be richly, fairly or attractively valued, with obvious risk implications.
What We Look For
We look at an array of variables to varying degrees, depending on the risk profile of the stocks. But for all growth stocks, the factors include:
• Degradation in corporate fundamentals (e.g., is ROE or sales growth slowing?);
• Evidence of disillusionment among buy-side investors (for instance, are they selling more shares than normal?);
• Evidence of disillusionment among sell-side analysts (e.g., are earnings revisions becoming negative or less broadly positive?);
• Technical indicators (for one, have returns or volatility become more skewed?)
This is just a taste of the factors that apply across sectors and geographies.
Do They Work?
According to our simulations, yes indeed. In our US growth universe, for example, the sell model that we use identified 35% of the stocks that ultimately wound up in the bottom quintile of performers—almost double the 20% that we’d expect by relying on random chance. Will the sell signals always work? No; but for my money, it’s a great arrow for an active investment manager to have in his or her quiver.Interested in reading more? See the white paper by Vadim Zlotnikov, now our Chief Market Strategist.
Andrew Chin is Global Head of Quantitative Research and Investment Risk at AllianceBernstein
The views expressed herein do not constitute research, investment advice or trade recommendations and do not necessarily represent the views of all AllianceBernstein portfolio management treams.
