There are a myriad of factors that are commonly used by investors to evaluate potential stock investments. These investment opportunities are often identified through the use of the numerous stock screeners that are readily available to investors. Common searches seek to identify companies that have a low Price Earnings, Price to Book Value, or Price to Cash Flow Ratio; high Dividend Yields; high Returns on Assets, Invested Capital, or Earnings; low Debt to Equity; and high Cash balances. In fact there are pre-defined stock screeners such as the Contrarian Strategy, Dogs of the Dow, Momentum Stocks, New 52-Week Highs, etc. that can be used to identify stocks in which to invest. The implicit assumption in using stock screeners is that there is a relationship between this data and the future performance of a stock. Should this assumption be valid then all one would have to do is run his/her magic screener and buy those stocks with his/her favorite criteria such as low Price Earnings Ratio and high Dividend Yield. In order to validate the premise that the data obtained from stock screeners influences the price of a company's stock, the change in the price of the Dow 30 Industrial stocks from 1999 to 2009 was compared to changes in the Returns they generated, their Financial Condition and Performance over that same time period. Returns included Returns on Equity, Invested Capital and Assets as well as Dividends paid to investors. Financial Condition included Current Ratio, Debt to Equity Ratio, along with Interest Coverage and Dividend Coverage. Performance included Sales, Earnings, Book Value and Cash Flow trends. A correlation analysis was conducted to determine the relationship of the price of each of the companies comprising the Dow Industrials and these factors. The hypothesis being that there was a statistically valid relationship between these factors.
As the following chart shows, dividends had a statistically significant impact on the change in the price of the stock of Exxon Mobil, Hewlett-Packard, Merck, and Verizon. It had a moderate impact on the price of the stock of Alcoa, Bank of America, DuPont, General Electric and JP Morgan Chase. Earnings had a strong impact on the price of Citigroup's and Exxon Mobil's stock. The stock price of Caterpillar, Chevron, Johnson & Johnson, McDonalds, Proctor & Gamble, and United Technologies was moderately impacted by earnings. Price changes in the stock of Exxon Mobil were statistically significantly impacted by its Dividends, Cash, Earnings, Book Value and Cash Flow and moderately impacted by its Return on Invested Capital, Dividend Coverage and Sales. Another company whose price movement could be partially explained by change in these factors is Caterpillar. There were moderately statistically significant relationships between its price and its Returns on Equity, Investment and Assets; its Interest and Dividend Coverage; as well as its Earnings and Cash Flow. Perhaps one of the most astonishing results is that there were no statistically meaningful relationships between the changes in the price of the stocks of 3M, American Express, AT&T, Boeing, Intel, IBM, Kraft, Microsoft, Pfizer, Coca-Cola, Home Depot, and Wal-Mart and the measures of Returns, Financial Condition, and Performance used in the analysis. To put it another way, the price movement of 40 percent of the Dow Industrials bore no statistically meaningful relationship to changes in these factors.
FACTORS AFFECTING STOCK PRICE of DOW 30 INDUSTRIALS RETURNS FINANCIAL CONDITION PERFORMANCE Dow 30 Components Company Equity Invested Capital Assets Dividends Current Ratio Debt to Equity Interest Coverage Dividend Coverage Cash Sales Earnings Book Value Cash Flow 3m Co Alcoa Inc ● American Express Company, AT&T Inc. Bank of America Corporation ● Boeing Co., Caterpillar Inc. ● ● ● ● ● ● ● Chevron Corp ●● ● ● ●● ● Citigroup, Inc. ●● ● E.I. du Pont de Nemours and Co ● Exxon Mobil Corp ● ●● ● ●● ● ●● ●● ●● General Electric Company ● General Motors Corporation ● Hewlett-Packard Co. ●● ● Intel Corporation International Business Machines Johnson & Johnson ● ● ● JP Morgan & Chase & Co ● Kraft Foods Inc. McDonald's Corporation ● ● Merck & Co., Inc. ●● Microsoft Corporation, Pfizer Inc, The Coca-Cola Company, The Home Depot, Inc. The Procter & Gamble Company ● ● ● ●● United Technologies Corporation ● ● ● Verizon Communications ●● Wal-Mart Stores, Inc. Impact ● Moderate ●● Significant Data Standard & Poor's
Based on the previous examination of the relationships between the price of the Dow Industrials stocks and certain measurements of their historical data, it should be apparent that stock screeners, in and of themselves, are not sufficient tools to use in selecting potential stock investments. Even if there were statistically significant relationships between the historical price movement and the data used in the stock screener, it does not mean that those relationships would continue in the future. Wall Street constantly warns that past performance is not indicative of future results, yet investors search the past to divine the future. It is like driving in traffic by looking through the rear view mirror and missing the collision ahead that is about to happen. As events of the past eighteen months have proven, highly improbable events can occur and inflict unforeseen casualties on investors. Since equity markets are supposedly discounting future events, investors should look through the windshield to see what is ahead of them and use the rear view mirror to see if the vehicle behind them has any relevance to their ultimate destination.
Marvin Doniger, Managing Partner of Doniger & Associates, is the author of A Common Sense Road Map to Uncommon Wealth, which is a treatise on managing careers and finances. His perspectives have been developed from his lifelong study of investing, his actual experiences as a registered representative, an individual investor, as well as from working for large companies in industry and as a management consultant to Fortune 500 companies. He is a leader in his industry.
As the following chart shows, dividends had a statistically significant impact on the change in the price of the stock of Exxon Mobil, Hewlett-Packard, Merck, and Verizon. It had a moderate impact on the price of the stock of Alcoa, Bank of America, DuPont, General Electric and JP Morgan Chase. Earnings had a strong impact on the price of Citigroup's and Exxon Mobil's stock. The stock price of Caterpillar, Chevron, Johnson & Johnson, McDonalds, Proctor & Gamble, and United Technologies was moderately impacted by earnings. Price changes in the stock of Exxon Mobil were statistically significantly impacted by its Dividends, Cash, Earnings, Book Value and Cash Flow and moderately impacted by its Return on Invested Capital, Dividend Coverage and Sales. Another company whose price movement could be partially explained by change in these factors is Caterpillar. There were moderately statistically significant relationships between its price and its Returns on Equity, Investment and Assets; its Interest and Dividend Coverage; as well as its Earnings and Cash Flow. Perhaps one of the most astonishing results is that there were no statistically meaningful relationships between the changes in the price of the stocks of 3M, American Express, AT&T, Boeing, Intel, IBM, Kraft, Microsoft, Pfizer, Coca-Cola, Home Depot, and Wal-Mart and the measures of Returns, Financial Condition, and Performance used in the analysis. To put it another way, the price movement of 40 percent of the Dow Industrials bore no statistically meaningful relationship to changes in these factors.
FACTORS AFFECTING STOCK PRICE of DOW 30 INDUSTRIALS RETURNS FINANCIAL CONDITION PERFORMANCE Dow 30 Components Company Equity Invested Capital Assets Dividends Current Ratio Debt to Equity Interest Coverage Dividend Coverage Cash Sales Earnings Book Value Cash Flow 3m Co Alcoa Inc ● American Express Company, AT&T Inc. Bank of America Corporation ● Boeing Co., Caterpillar Inc. ● ● ● ● ● ● ● Chevron Corp ●● ● ● ●● ● Citigroup, Inc. ●● ● E.I. du Pont de Nemours and Co ● Exxon Mobil Corp ● ●● ● ●● ● ●● ●● ●● General Electric Company ● General Motors Corporation ● Hewlett-Packard Co. ●● ● Intel Corporation International Business Machines Johnson & Johnson ● ● ● JP Morgan & Chase & Co ● Kraft Foods Inc. McDonald's Corporation ● ● Merck & Co., Inc. ●● Microsoft Corporation, Pfizer Inc, The Coca-Cola Company, The Home Depot, Inc. The Procter & Gamble Company ● ● ● ●● United Technologies Corporation ● ● ● Verizon Communications ●● Wal-Mart Stores, Inc. Impact ● Moderate ●● Significant Data Standard & Poor's
Based on the previous examination of the relationships between the price of the Dow Industrials stocks and certain measurements of their historical data, it should be apparent that stock screeners, in and of themselves, are not sufficient tools to use in selecting potential stock investments. Even if there were statistically significant relationships between the historical price movement and the data used in the stock screener, it does not mean that those relationships would continue in the future. Wall Street constantly warns that past performance is not indicative of future results, yet investors search the past to divine the future. It is like driving in traffic by looking through the rear view mirror and missing the collision ahead that is about to happen. As events of the past eighteen months have proven, highly improbable events can occur and inflict unforeseen casualties on investors. Since equity markets are supposedly discounting future events, investors should look through the windshield to see what is ahead of them and use the rear view mirror to see if the vehicle behind them has any relevance to their ultimate destination.
Marvin Doniger, Managing Partner of Doniger & Associates, is the author of A Common Sense Road Map to Uncommon Wealth, which is a treatise on managing careers and finances. His perspectives have been developed from his lifelong study of investing, his actual experiences as a registered representative, an individual investor, as well as from working for large companies in industry and as a management consultant to Fortune 500 companies. He is a leader in his industry.
About the Author:
Mr. Doniger received a Masters in Business Administration from Columbia University Graduate School of Business and a Bachelor of Science Degree in Mechanical Engineering from Tufts University. He has taught undergraduate and graduate level courses in production control, inventory management, information technology and finance at Fitchburg State College and Webster University. CONTACT INFORMATION: Tel: 949-661-5456 Email: Marv@DonigerAssociates.com www.donigerassociates.com
