Regular readers will know that I recently launched the Compound Income Scores (CIS) which I believe are a good way of identifying potentially attractive shares which may be worthy of further research. However, while the thinking behind them is backed up by academic research and years of practical experience, I have not been able to back test them to prove how effective they are.
So partly for my own purposes, but also to provide a portfolio for the site, I have decided to launch a "mechanical" portfolio based on stocks which score highly on the CIS. I say mechanical because I am going to allow it to be driven by the Scores without too much input from myself, other than applying the screening criteria and making sure it is not over exposed to expensive stocks or one sector. This way we will be able to see how a portfolio based on high CIS scores performs and for my own purposes I'll be able to see how it compares against my own portfolio.
As explained in the introduction the portfolio will be based on top scoring CIS stocks selected from the top decile initially.
Arguably if I was trying to purely measure the Scores I should just pick the top stocks without qualifications or any screening but since I want it to reflect what I normally do, the main screening criteria applied over and above being in the top decile are as follows:
To try and make it realistic for what reader might be doing I have assumed a starting capital of £30,240 which represents two years ISA allowances for the tax years 2014/15 and 2015/16. This is then allocated across top decile CIS stocks, after the above filters have been applied, in equal weights across 20 holdings to get a reasonable balance between diversification and position size / costs.
On costs I have factored in commission of £5 per trade and stamp duty of 0.5% where applicable (Nil for AIM stocks) with all the initial purchases made at closing prices on the 2nd April 2015 as I did it over the Easter Weekend.
Again in the interests of time and costs I have decided for now to try re-screening on a quarterly basis as buying costs for the whole portfolio came out at 0.66% split equally between stamp and commission. So 100% turnover would therefore cost 1% of the portfolio. I'm thinking at this stage that I might keep existing stocks down to a CI Score of 60 or perhaps 75, but I'll have to see how it goes and balance the turnover with the portfolio exposure to the Scores. Alternatively I might be able to do it based on only holding top decile - I guess I'll have to wait and see how this live experiment goes and what sort of turnover it might entail.
As another test of the Scores and with an eye on costs and time constraints I'll also maintain a list of the initial holdings and review these on an annual basis to see how effective the Scores are doing it that way and how the turnover and performance pans out that way in comparison with the quarterly version.
Summary & Conclusion
The CIS Portfolio is designed as a test of the effectiveness of the Compound Income Scores and as I have been promising for a while to do a portfolio on the site, this provides one. It is also something for me to compare my own performance against to see if I should be following the Scores more closely in my portfolios. While this may be not what I originally had in mind, I think it should prove useful for me and hopefully for readers too.
It will be interesting to see how this live experiment goes, although in the short term it may well be volatile, but I believe that over time it should do well. The rational for making it mechanical is based on the experience of The Little Book That Beat the Market - by Joel Greenblatt. He had a quantitative system which seemed to perform well, although in a volatile fashion. However, he found that when investors used it they failed to get the same returns as the model due to them picking and choosing and thereby excluding some of the big winners which on the face of it seemed unpalatable.
In the meantime I may comment on some of the stocks that feature but I probably won't comment on the whole list all the time apart from perhaps monthly updates and certainly when I do the quarterly re-screening around the end of each quarter going forward from here.
For now you can see the portfolio and transactions by clicking here or in a sub heading under the Portfolio tab at the top of the site. You might also be able to use this file as a template for your own portfolio and get the Scores for your portfolio too if that is something that interests you.
Finally I would stress that this is a "Mechanical" Portfolio purely selected from high scoring stocks on the Compound Income Scores. While I believe these should identify potentially attractive stocks, please note that I have not carried out any further due diligence on the stocks. So if you are attracted to any of the names you should certainly do your own research.