This week, I am continuing our summer theme of looking at some of the more interesting Guru Screens in more detail. So far, Roland has looked at Jim Slater's Zulu Principle and the GARP screen here. A couple of weeks ago, I wrote about Ben Graham's Enterprising Investor Screen.
For those who have never looked at the guru screens before, they can be found in the Browse section of the sidebar here:
Given my preference for cheap stocks that may benefit from the power of mean reversion, I tend to gravitate towards the Value Investing and Bargain Stock screens. However, all types of investors should be able to find a screen that suits their investing style.
As I look through these screens, one of the most appealing ones to me is the Neglected Firms Screen. The screen description explains that it uses value and quality measures to find neglected shares that are under-researched by analysts and potentially misunderstood by investors. It looks for companies with low analyst coverage, above-average earnings growth, and cheap according to their price-to-earnings and price-to-book ratios. In their book Quantitative Equity Portfolio Management, Chincarini and Kim say that:
It is likely that neglected firm's stock prices do not reflect all the relevant information available and that their prices will react sluggishly to relevant news. This opens a window of time and opportunity for an astute investor to purchase undervalued, neglected stocks and reap the rewards when the market recognizes the stocks' true values.
This sounds like an interesting angle - if investors can find companies with limited broker coverage that are growing and cheap, then investors may be able to gain an informational or analytical edge over other market participants.
The Screen
One of the keys to this screen is that investors can benefit by looking at stocks where others aren't. Having just a couple of brokers give a (semi) independent view of prospects means that the story may not be well-known amongst individual investors or institutions:
Chincarini and Kim's rationale for the outperformance of neglected firms is that the market may miss the growth potential of such businesses. Hence, the screen looks for companies growing faster than average in their industry:
The idea is that the market may be slow to…
