This article series has been releasing every month since 2015 a dashboard with aggregate sector metrics in the S&P 500 index (VOO, SPY, IVV).

Shortcut

If you are used to this dashboard series or if you are short of time, you can skip the first paragraphs and go to the charts. However, reading them once is necessary if you want to use the metrics for stock picking purposes.

Our Base Metrics

We calculate the median value of five fundamental ratios in sector: Earnings Yield (“EY”), Sales Yield (“SY”), Free Cash Flow Yield (“FY”), Return on Equity (“ROE”), Gross Margin (“GM”). All are calculated on trailing 12 months. For all these ratios, higher is better and negative is bad. EY, SY and FY are medians of the inverse of Price/Earnings, Price/Sales and Price/Free Cash Flow. They are better for statistical studies than price-to-something ratios, which are unusable or non available when the “something” is close to zero or negative (for example, companies with negative earnings). We also calculate two momentum metrics for each group: the median monthly return (RetM) and the median annual return (RetY).

We use medians rather than averages because a median splits a set in a good half and a bad half. A capital-weighted average is skewed by extreme values and the largest companies. Our metrics are designed for stock-picking rather than index investing.

Value and Quality Scores

We calculate historical baselines for all metrics. They are noted respectively EYh, SYh, FYh, ROEh, GMh, and they are calculated as the averages on a look-back period of 11 years. For example, the value of EYh for technology in the table below is the 11-year average of the median Earnings Yield of S&P 500 tech companies .

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We define the Value Score (VS) as the average difference in % between the three valuation ratios (EY, SY, FY) and their baselines (EYh, SYh, FYh). The same way, the Quality Score QS is the average difference between the two quality ratios (ROE, GM) and their baselines (ROEh, GMh). The formulas are below.

VS =100*((EY-EYh)/EYh+(SY-SYh)/SYh+(FY-FYh)/FYh)/3

QS =100*((ROE-ROEh)/ROEh+(GM-GMh)/GMh)/2

The scores are in percentage points (hence the factor 100). VS may be interpreted as the percentage of undervaluation or overvaluation relative to the baseline. A positive score points to undervaluation, a negative one to overvaluation (positive is good, negative is bad). This interpretation must be taken with caution: the baseline is an arbitrary reference, not a supposed fair value. The formula assumes that the three valuation metrics are of equal importance, except in energy and utilities where the Free Cash Flow Yield is ignored to avoid some inconsistencies.

Current data

The next table shows the metrics and scores as of last week’s closing. Columns stand for all the data named and defined above.

VS

QS

EY

SY

FY

ROE

GM

EYh

SYh

FYh

ROEh

GMh

RetM

RetY

All

-22.79

-0.80

0.0388

0.4189

0.0253

13.41

47.54

0.0491

0.5343

0.0341

14.45

45.02

2.50%

-1.40%

Cs. Discretionary

-26.61

-5.18

0.0374

0.7292

0.0208

18.70

35.77

0.0515

0.8024

0.0367

20.27

36.73

0.98%

-9.89%

Cs. Staples

-13.33

-2.42

0.0388

0.4447

0.0263

21.64

41.07

0.0489

0.5798

0.0253

22.57

41.36

2.48%

8.12%

Energy

2.20

-64.52

-0.0021

1.1513

0.0200

0.40

27.95

0.0372

0.5481

-0.0209

7.07

42.84

-6.39%

-39.70%

Financials

10.31

11.58

0.0857

0.5471

0.0769

10.23

81.55

0.0640

0.5475

0.0792

9.56

70.21

-0.78%

-17.19%

Healthcare

-37.36

6.67

0.0295

0.2212

0.0244

18.23

62.92

0.0433

0.3539

0.0426

16.34

61.81

6.60%

15.76%

Industrials

-23.05

4.34

0.0414

0.5145

0.0267

20.79

37.20

0.0523

0.6884

0.0347

19.45

36.54

4.49%

2.19%

Technology

-35.77

34.92

0.0320

0.1811

0.0280

29.74

65.89

0.0434

0.3363

0.0430

18.34

61.18

3.32%

15.99%

Communication

-9.25

-3.87

0.0564

0.5635

0.0320

14.89

54.69

0.0522

0.6022

0.0453

16.02

55.07

2.77%

-4.91%

Materials

-7.36

-2.80

0.0413

0.6806

0.0254

15.29

34.87

0.0464

0.7230

0.0268

16.12

35.02

4.85%

-3.16%

Utilities

-35.00

9.46

0.0442

0.3609

-0.0665

9.92

43.91

0.0574

0.6810

-0.0435

9.86

37.10

3.64%

-2.44%

Real Estate

-9.33

20.61

0.0338

0.1286

0.0006

7.41

66.80

0.0200

0.1355

0.0074

5.33

65.35

-4.30%

-18.49%

Score charts

The next chart plots the Value and Quality Scores by sectors (higher is better).

Score variation since last month:

The next chart plots momentum data.

Interpretation

A hypothetical S&P 500 “median” company is overvalued by about 22.8% relative to average valuation metrics since 2009. Quality is close to the baseline. We can translate median yields in their inverse ratios:

Price/Earnings: 25.77 – Price/Sales: 2.39 – Price/Free Cash Flow: 39.53

These three numbers have deteriorated since last month.

The only sector with positive Value and Quality scores is financials. Materials and communication are close to their baseline in value and quality. Consumer goods are moderately overpriced. Healthcare, technology, industrials, consumer discretionary and utilities are significantly overvalued. It may be justified for technology by an excellent quality score.

Energy has an average value score and a very bad quality score. The median earnings yield (EY) and return on equity (ROE) are close to zero. It means about half of S&P 500 companies in this sector are unprofitable regarding these metrics.

Only three sectors have positive annual momentum scores: consumer staples, healthcare and technology.

We use the table above to calculate Value and Quality Scores. It may also be used it in a stock-picking process to check how companies stand among their peers. For example, the SY column tells that a large consumer staples company with a Sales Yield above 0.4447 (or price/sales below 2.25) is in the better half of the sector regarding this metric. A Dashboard List is sent every month to Quantitative Risk & Value subscribers with the most profitable companies standing in the better half among their peers regarding the three valuation metrics at the same time.

Our cheap stock lists are designed to outperform their sector benchmarks on the long-term. Quantitative Risk & Value (QRV) provides you with a realistic quantitative approach of market risk and sector-oriented value. Get started with a two-week free trial and see how QRV can improve your investing decisions.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.



Via SeekingAlpha.com