Investors with a high risk appetite have always banked on momentum strategy with high yielding potential. Richard Driehaus, a pioneer in this field, came up with a momentum strategy on the back of the "buy high and sell higher" principle. The success of Driehaus’ investing strategy earned him the honor of a place in Barron’s All-Century Team.
Portfolios built on Driehaus’ methodology also proved to be profitable over a significant time frame. For instance, the American Association of Individual Investors’ (AAII) portfolio, which followed this strategy, returned 13.5% and 18.1% in the five- and 10- year timeframe, respectively, compared with -1.1% and 4.2% returns registered by the S&P 500.
Driehaus’ Strategy in Brief
Regarding the strategy, Driehaus once said: “I would much rather invest in a stock that’s increasing in price and take the risk that it may begin to decline than invest in a stock that’s already in a decline and try to guess when it will turn around.” In line with this insight, AAII took into account the percentage 50-day moving average as one of the key criteria before creating a portfolio following Driehaus’ philosophy.
It is calculated by dividing the numerator (month-end price minus 50-day moving average of month-end price) by the 50-day moving average of the month-end price. Another momentum indicator – positive relative strength – has also been included in this strategy. A positive percentage 50-day moving average indicates that the stock is trading at a price higher than its 50-day moving average level, indicating an uptrend.
Moreover, AAII found that Driehaus primarily focused on strong earnings growth rates and impressive earnings projections to pick potential outperformers. Companies with a strong history of beating estimates are also given importance in this strategy, which was made to provide better returns over the long term.
In order to make the strategy more profitable, we have considered only those stocks that have a Zacks Rank #1 (Strong Buy) and a momentum score of ‘A’ or ‘B’. Our research shows that stocks with a Style Score of ‘A’ or ‘B’ when combined with a Zacks Rank #1 or 2 offer the best upside potential.
• Zacks Rank equal to #1
(Only Strong Buy rated stocks can get through. You can see the complete list of today’s Zacks #1 Rank stocks here.)
• Last 5-year average EPS growth rates above 2%
(Strong EPS growth history ensures improving business.)
• Trailing 12 month EPS growth higher than 0 and industry median
(Higher EPS growth compared to the industry average indicates superior stocks.)
• Last four-quarter average EPS surprise greater than 5%
(Positive EPS surprise indicates potential.)
• Positive % 50-day moving average and relative strength over 4 weeks
(High % 50-day moving average and relative strength signal uptrend.)
• Momentum Score equal to or less than B
(Favorable momentum score indicates that it is ideal to take advantage of the momentum with the highest probability of success.)
These few parameters narrowed down the universe of over 7,700 stocks to only 8.
Here are five of the 8 stocks:
Electronic Arts Inc. EA is involved in the creation, marketing and distribution of entertainment software, which can be played both offline and online. Electronic Arts has a Momentum Score ‘A’ and an average four-quarter positive earnings surprise of 32.2%.
Worthington Industries, Inc. WOR is one of the leading diversified metal processing companies. Worthington Industries has a Momentum Score ‘A’ and an average four-quarter positive earnings surprise of 20.1%.
Mercadolibre, Inc. MELI is the largest online trading platform in Latin America. Mercadolibre has a Momentum Score ‘A’ and an average four-quarter positive earnings surprise of 28%.
EQT Midstream Partners, LP EQM owns, operates, acquires and develops midstream assets in the Appalachian Basin. EQM has a Momentum Score ‘A’ and an average four-quarter positive earnings surprise of 7.2%.
Copart, Inc. CPRT is a provider of online auctions and vehicle remarketing services. Copart has a Momentum Score ‘B’ and an average four-quarter positive earnings surprise of 8.1%.
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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: https://www.zacks.com/performance.
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