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Our Rating System Is Not A "Black Box"

Parsimony Ratings Methodology

We use a combination of fundamental and technical analysis to determine which stocks to buy and when to buy them. For dividend stocks in particular, we have a robust rating system that ranks over 700 U.S. dividend stocks on a monthly basis.


Our overall Parsimony Rating is derived by ranking each stock against the rest of the universe based on 28 key fundamental and technical data points in five sub-rating categories (see list below). Our overall Parsimony Rating and each sub-category rating range from 1 (lowest) to 99 (highest). These ratings can also be thought of as percentile rankings (i.e., if a stock has a rating of 95, it is in the 95th percentile of all stocks in our universe). When choosing investments for our own DIY Dividend Portfolio, we tend to target stocks with an overall Parsimony rating of at least 80.

RISK / REWARD PROFILE  (30% weighting):  Measures the stock’s overall risk/reward profile

  • Current Dividend Yield (%) – stocks in our universe have a minimum dividend yield of 1.5%
  • Total Return (5-year) – dividend-adjusted return
  • CALMAR Ratio (compound annual return / maximum drawdown) – measures downside risk-adjusted return
  • Beta (5-year) – low beta stocks tend to be less volatile than the general market
  • Correlation to S&P 500 (5-year) – stocks with lower correlations to the broader market will help reduce portfolio risk

FINANCIAL STABILITY  (20% weighting):  Measures the stock’s overall financial health

  • Revenue Growth (1-year) – stocks with stable sales growth tend to have stable dividend growth
  • Revenue CAGR (5-year) – stocks with stable sales growth tend to have stable dividend growth
  • EPS Growth (1-year) – stocks with stable earnings growth tend to have stable dividend growth
  • EPS CAGR (5-year) – stocks with stable earnings growth tend to have stable dividend growth
  • EBITDA CAGR (5-year) – stocks with stable cash flow growth tend to have stable dividend growth
  • Return-on-Equity (LTM) – measures the profitability of a company; the higher, the better
  • Return-on-Equity (5-year avg.) – measures the profitability of a company; the higher, the better
  • Debt/EBITDA – high-quality dividend stocks tend to have low debt levels
  • Debt/Equity – high-quality dividend stocks tend to have low debt levels
  • Cash per Share / Current Price – companies with high levels of cash have a greater ability to  pay dividends

DIVIDEND TRACK RECORD  (25% weighting):  Measures the stock’s historical dividend stability and growth

  • Years of Dividend Payments – total number of years that a company has paid a dividend to shareholders
  • Years without a Dividend Decrease  - consecutive years paying a dividend without a decrease
  • Dividend Growth (1-year) - companies with a strong history of dividend growth tend to continue that trend in the future
  • Dividend CAGR (5-year) – companies with a strong history of dividend growth tend to continue that trend in the future
  • Dividend CAGR (10-year) – ideally a stock’s long-term dividend growth rate will be higher than the rate of inflation

DIVIDEND SUSTAINABILITY  (15% weighting):  Measures the stock’s ability to continue to make (or raise) its current dividend

  • EPS Estimated Growth (1-year) – based on consensus estimates; positive earnings growth should lead to higher dividends
  • EPS Estimated CAGR (5-year) – based on consensus estimates; positive earnings growth should lead to higher dividends
  • Free Cash Flow Yield (%) (free cash flow per share /current price) – ideally FCF yield should be higher than dividend yield
  • Payout Ratio (LTM) – % of earnings paid out in dividends; generally a lower payout ratio is preferred to a higher ratio
  • Payout Ratio (5-year avg.) – % of earnings paid out in dividends; generally a lower ratio is preferred to a higher ratio

RELATIVE STRENGTH  (10% weighting):  Measures the strength of the stock’s trend

  • Total Return (12-month) – Strong performing stocks tend to continue to outperform their peers in the future
  • Trend (50-day > 200-day) – A stock is in an uptrend if its 50-day moving average is above its 200-day moving average
  • Industry Relative Strength – Stocks in strong industries tend to outperform stocks in weak industries

 

 


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