Return On Equity: Key to 52% Annual Return

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Each week Kevin Matras, of Zacks Investment Research, will share with you another screen he has discovered that has created winning results. Here are his latest findings:

"Return on Equity (ROE): Key to 52% Annual Return"

This week, I'll focus on another winning screening strategy that is both easy to build and easy to use with our Research Wizard program. This one uses Return on Equity (ROE) as one of the main components in our strategy.

ROE is one of the quickest ways to gauge whether a company is creating assets or gobbling up investors' cash.

ROE = income / common equity

For instance: if the ROE is 10%, then ten cents of assets are created for each shareholder dollar that was originally invested. Knowing the company is generating healthy returns from invested capital rather than burning through that cash is a good starting point to finding attractive companies.

So the parameters to this screen are as follows:

ROE >= 10% (Companies with no return on shareholder equity are disqualified.)

Zacks Rank = 1 (The Zacks Rank, which looks at upward earnings estimates revisions, amongst other things, will get us into companies whose forecasted earnings are getting stronger.)

Average Broker Rating = 1 (Since broker ratings are typically skewed wildly to 'buy' and 'strong buy', I've decided to cancel out any company where the brokers aren't on board.)

And for good measure, the price has to be at or above $5 with a minimum of 50,000 shares traded a day.

The results:

I ran 5 separate tests, using a four-week rebalancing period over the last 2-year time span. (Each run was rebalanced over different four-week periods to eliminate coincidence and verify robustness.)

The conclusion showed a robust strategy indeed, that consistently outperformed the market and generated impressive returns. Over the last 2 years, the average annualized gross return is approx. 52%. It also has an excellent 65% average win ratio (winning periods). And it's a very practical strategy to implement since it typically generates on average of only 4-6 stocks per period.

Currently, there are 6 stocks on that list this week. Such as:

(DRL) Doral Financial Corp.; Finance Sector
(SCHN - Snapshot Report) Schnitzer Steel; Basic Materials Sector
(WOOF - Snapshot Report) VCA Antech, Inc.; Medical Sector

I'd also like to add that when I increased the ROE from 10% to 20%, it had a noticeable increase in performance, although with fewer stocks and slightly higher volatility. Sign up now for your 2-week free trial to the Research Wizard and experiment with these values on your own to find the right mix of risk and reward that you're comfortable with. http://researchwiz.zacks.com