• Introduction
  • Our Fundamental Favorites and the Three Pillars
  • Fundamental Scarcity
  • Fundamental Favorites’ Characteristics
  • Drivers of Greater Excess Returns
  • Conclusions: A Small but Privileged Pond

Introduction

A year ago, we published the white paper Batter Up! More from Our Core: Optimizing Our Top Ranked Stocks to Amplify Efficiency & Performance in which we introduced our Fundamental Favorites for the Small & Mid Cap universe. In the paper we explain that to qualify as a Fundamental Favorite, a stock has to be ranked in the top 10 stocks for that month and have the best (5) quintile score for each of the Three Pillars of Valuation, Balance Sheet Quality and Earnings Quality. We found that the Fundamental Favorites in the Small & Mid Cap space generate over 50% higher excess returns on average than the Kailash Capital (Kailash) Core Small & Mid Cap Portfolio created from the top 25 ranked stocks each month in the Kailash Ranking Tool. The primary mechanism that drives the excess returns of our Small & Mid Cap Fundamental Favorites group is a meaningful improvement in batting averages over the already very strong batting averages in the Core Small & Mid Cap Portfolio. While we see a bit more dispersion in the winners and losers (i.e., when compared to the Core Small & Mid Cap Portfolio, the winners win by more and the losers lose by more), the payoff structure is highly favorable as the improvement among the winners is nearly three times greater than the deterioration in underperformers’ relative performance. Combining the favorable asymmetrical payoff structure of the Small & Mid Cap Fundamental Favorites with the higher batting averages, and you have among the most potent and concise Small & Mid Cap stock shopping lists ever created by Kailash Capital.

Clients with a Large Cap mandate have asked if there is a corresponding group of Fundamental Favorites for the R1000 space that also generates excess returns compared to both the R1000 index and the Kailash Core Large Cap (R1000) Portfolio created from the top 75 ranked stocks each month in the Kailash Large Cap Ranking Tool. This white paper will apply the same methodology and analysis to the Russell 1000 universe as we had previously done for the Small & Mid Cap universe. Because the Large Cap Fundamental Favorites work similarly well and share other likenesses with the Small & Mid Cap Fundamental Favorites and because we performed the same analyses to generate the same charts, many parts of this paper will look familiar to clients who read the original white paper last year.

In summary: We believe that clients should strongly consider investing in our Fundamental Favorites, which are Top 10 stocks in our Ranking Tool that also had top quintile scores (i.e., Quintile 5) in each of the Three Pillars of Valuation, Balance Sheet Quality and Earnings Quality. Owning these stocks is compelling as these Fundamental Favorites added over 50% to the Kailash Core Large Cap Portfolio’s historical annual excess return, improving it from an already strong +580bps per year to +910bps per year. Therefore, we believe this concentrated list of stocks is deserving of your attention.

  1. As a reminder for our Financial Advisors: our models are available on a continuous basis, and most have been in production for over a decade.  If you are looking for simple, concentrated, low turnover, and tax efficient model portfolios we would like to talk with you.  KCR also offers a wide range of easy-to-use but sophisticated tools.  Our toolkits can help identify mispriced stocks with the best and worst risk/reward characteristics, estimate a stock’s duration and warn you when a company is engaging in low-quality accounting. Over the last 12 years, KCR has built and offers time-tested and class-leading products built by experienced and proven money managers for fixed to low prices.
  2. Kailash Capital’s sister company, L2 Asset Management, runs market neutral, long/short, large-cap, and mid-cap long-only portfolios with a value and quality bias.  L2 employs a highly disciplined investment process characterized by moderate concentration, low turnover, high tax efficiency, and low fees. While nobody can predict the future, we believe the recent resurgence in risk-adjusted returns seen across all products is the beginning of what may be a long period where speculation is punished, and prudence and patience rewarded.

Disclaimer

The information, data, analyses, and opinions presented herein (a) do not constitute investment advice, (b) are provided solely for informational purposes and therefore are not, individually or collectively, an offer to buy or sell a security, (c) are not warranted to be correct, complete or accurate, and (d) are subject to change without notice. Kailash Capital, LLC and its affiliates (collectively, “Kailash Capital”) shall not be responsible for any trading decisions, damages or other losses resulting from, or related to, the information, data, analyses or opinions or their use. The information herein may not be reproduced or retransmitted in any manner without the prior written consent of Kailash Capital. In preparing the information, data, analyses, and opinions presented herein, Kailash Capital has obtained data, statistics, and information from sources it believes to be reliable. Kailash Capital, however, does not perform an audit or seeks independent verification of any of the data, statistics, and information it receives. Kailash Capital and its affiliates do not provide tax, legal, or accounting advice. This material has been prepared for informational purposes only and is not intended to provide, and should not be relied on for tax, legal, or accounting advice. You should consult your tax, legal, and accounting advisors before engaging in any transaction. © 2021 Kailash Capital, LLC – All rights reserved.

Nothing herein shall limit or restrict the right of affiliates of Kailash Capital, LLC to perform investment management or advisory services for any other persons or entities. Furthermore, nothing herein shall limit or restrict affiliates of Kailash Capital, LLC from buying, selling or trading securities or other investments for their own accounts or for the accounts of their clients. Affiliates of Kailash Capital, LLC may at any time have, acquire, increase, decrease or dispose of the securities or other investments referenced in this publication. Kailash Capital, LLC shall have no obligation to recommend securities or investments in this publication as result of its affiliates’ investment activities for their own accounts or for the accounts of their clients.

March 30, 2016 |

Categories: White Papers

March 30, 2016

Categories: White Papers

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