G-Score Sales Growth 5-Year Variance Backtest Part 4

In Part 3 of my series on the Mohanram G-Score, I examined G4, the ROA 5-year variance and found that it was good at predicting under performing growth stocks with high earnings variance. In this article, I’m going to look at Mohanram’s G5 factor, which looks at a firms 5-year variance in sales growth compared to its peers in its industry group.

Similar to the variance in earnings growth, sales growth variance has also been known to identify situations were naive extrapolation of current growth is used to predict future growth for valuations. A firm that has stable growth is less likely to negatively surprise investors with large dips in sales growth. The G5 factor is designed to sort out companies with highly variable sales growth compared to those with steady sales.

I defined sales growth variance in Portfolio123 to be equal to the following formula:

$salesvariability = Pow(LoopStdDev("(Sales(CTR,TTM,KEEPNA)-Sales(CTR+1,TTM,KEEPNA))/Sales(CTR+1,TTM,KEEPNA) * 100",5,0,4,0,1), 2)

Here’s the backtest rules I ran on Portfolio123 to test the 5-year variance of sales growth on stock performance:

Sales Growth 5-Year Variance Backtest Filter Rules

These rules are very similar to the ones I set up for the G4 ROA variance backtest.

Summary of Results for G5: Sales Growth 5-Year Variance

Sales Growth Variance Backtest results
19-Year Backtest Results for G5 (2002 – 2020)

* Average excess returns were analyzed starting in each month with 12-month holding periods (230 sample periods). This avoids the potential for seasonal reporting bias.

Average annual excess returns from 2002 to 2020 for G5

The above results clearly indicate a linear relationship between sales growth variance (compared to peers within the same industry) and average annual excess returns. These results are even stronger than the results fro ROA variance. It both identifies underperformers with high sales growth variance and strong performance for the 20% of stocks ranked by the lowest sales growth variance within their industry. In 84% of the test years, the 1st quintile under-performed the S&P 500 equal weight benchmark, and in 74% of the test years the 5th quintile outperformed the S&P 500 equal weight benchmark.

Mohanram G-Score: G5 Returns (2002 – 2020)

Sales Growth 5-Year Variance Backtest 1st Quintile
Sales Growth 5-Year Variance Backtest 2nd Quintile
Sales Growth 5-Year Variance Backtest 3rd Quintile
Sales Growth 5-Year Variance Backtest 4th Quintile
Sales Growth 5-Year Variance Backtest 5th Quintile

The charts clearly show a fairly consistent underperformance of the 1st, 2nd and 3rd quintile of the sales growth variance backtests. This factor might be something to consider as a filter for your own investment process. What are your thought on this backtest? Please share them in the comments section below.

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