As of the end of September, 34 stocks met the initial selection criteria for the Model Shadow Stock Portfolio. While the number of passing stocks is down from 35 at the end of August, generally the number of companies passing the value, micro-cap Shadow Stock approach has been edging up slightly over the course of the year. For example, there were only 23 qualifying stocks at the end of June. AAII members can see and research which companies are currently passing the initial selection criteria in the Shadow Stock Ideas table on AAII.com. The list of new Shadow Stock Ideas is updated daily—Tuesday through Saturday.
Of the 34 qualifying companies at the end of the month, seven are currently held in the Model Shadow Stock tracking portfolio: Covenant Transportation Group (CVTI), CPI Aerostructures Inc. (CVU), Hooker Furniture Corp. (HOFT), Hurco Companies Inc. (HURC), Mesa Air Group (MESA), Olympic Steel Inc. (ZEUS) and Universal Stainless & Alloy Products (USAP). Qualifying companies are those held in the Model Shadow Stock Portfolio that currently meet the initial purchase rules. (They are designated as “qualifies” in the notes column of the Model Shadow Stock Portfolio table on AAII.com. However, if you go online, the notes may not match the list here since the notes on the website table are dynamically updated daily.)
At the end of the month, Vishay Precision Group Inc. (VPG) had the highest price-to-book-value ratio in the Model Shadow Stock Portfolio. Its ratio of 1.89 is well above the 1.00 maximum value used for initially qualifying a stock for inclusion to the portfolio. However, stocks are not removed from the portfolio until their price-to-book-value ratio rises to three times the initial maximum value. It may help you to think about values below 1.00 as being attractive, while values three times above the initial are expensive. Allowing the price-to-book ratio to expand for stocks that you own allows your winners to run up a little, since the price-to-book ratio typically gets larger as the stock price goes up. The initial price-to-book level is adjusted over time to reflect the changing market conditions, and we have just started our valuation and size examination now for the next quarterly portfolio review. We last covered the size and value levels used for the Model Shadow Stock Portfolio in the April 2019 AAII Journal article “The Impact of Winter’s Volatility on the Shadow Stock’s Rules.”
The Model Shadow Stock Portfolio looks for stocks with a market cap (share price times shares outstanding) less than $400 million. Shadow Stocks with a market cap three times the initial market cap maximum ($400 million × 3 = $1.2 billion) at the time of a quarterly review are sold from the model portfolio, assuming there is a suitable replacement. PC Connection Inc. (CNXN) is approaching the market capitalization cut-off of $1.2 billion. PC Connection had a month-end market cap of $1.019 billion and has been flirting with the upper limit over the course of the year.
Click here to see the current purchase and sell rules for the portfolio.
The stock market bounced back during September, with the S&P 500 index finishing the month at 2,976.74, 1.6% off its all-time high of 3,025.86 set on July 26, 2019. The stock prices of mid- and small-cap companies were particularly strong performers during the month. The Model Shadow Stock Portfolio gained 9.9% during September and is now up 6.9% year to date. The S&P 500 as measured through the Vanguard 500 Index fund (VFINX), was up 1.9% during September, boosting its year-to-date performance to 20.5%. The S&P MidCap 400 index was up 3.1% during September and is now up 17.9% for the year, while the Russell 2000 index gained 2.1% during the month and is up 14.2% year to date. The Vanguard Small-Cap Index fund (NAESX) was up 1.4% during the month and has a year-to-date performance of 17.7%, while the DFA U.S. Micro Cap fund (DFSCX) was up 4.1% during September and is up 10.7% for this year through the end of September.
The performance of growth- versus value-oriented stocks was heavily slanted toward value stocks during the month, with value stocks outperforming their growth counterparts across all market-cap levels.
In the large-cap segment, value stocks were up 3.7% for the month, bringing their year-to-date performance up to 20.1% for 2019. Large-cap growth stocks are stronger year to date with a 21.1% gain but were up only 0.3% during September.
In the mid-cap segment, value stocks are up 17.4% for the year, after gaining 5.0% during September. Mid-cap growth stocks are up 18.3% for the year, after gaining 1.3% during the month.
Small-cap value stocks are up 12.8% year to date, while small-cap growth stocks are up 15.3%. Small-cap value stocks gained 5.1% during September, while small-cap growth stocks actually lost 0.8% during the month.
Stocks in the information technology (+31.4%), utilities (+25.4%) and consumer staples (+23.3%) sectors are leading the market this year. Sectors that are lagging this year include health care (+5.6%), energy (+6.0%) and materials (+17.1%). All the sectors are up for the year during the first three quarters, but there is a large difference between the top- and bottom-performing groups.
Since its inception in 1993, the AAII Model Shadow Stock Portfolio has a compound annual average return of 13.9% versus the Vanguard 500 Index fund’s gain of 9.4% per year on average over the same period. Over the same period, the Vanguard Small-Cap Index fund posted an average annual gain of 9.8%.
Hibbett Sports Inc. (HIBB) was the strongest stock in the Model Shadow Stock Portfolio with its 43.8% gain for September. In the world of growing online shopping, Hibbett Sports operates athletic specialty stores in small and mid-sized markets in the South, Southwest, Mid-Atlantic and the Midwest regions of the U.S. As noted below, Hibbett Sports announced that Scott Humphrey will join the company as interim CFO effective September 29, replacing Christine Skold.
Container Store Group Inc. (TCS) was the weakest stock in the Model Shadow Stock Portfolio, dropping 1.3% during September. Container Store Group is a specialty retailer of storage and organization products.
The next quarterly review of the AAII Model Shadow Stock Portfolio will take place around the end of November 2019, after most of the Shadow Stock holdings have announced their quarterly earnings. Any changes to the portfolio will be announced at the time they are made in a special Model Shadow Stock Portfolio Update email (sign up at www.aaii.com/email).
Here are some news highlights from September for the holdings in the Model Shadow Stock Portfolio:
Beazer Homes USA Inc. (BZH) reported that sales for the first two months of its fourth quarter of 2019 were up 12.5% year over year. The increase in July and August was primarily related to a higher selling pace, as sales per community per month rose to 3.0 from 2.7 in the previous year. In addition, the company continues to expect its fiscal fourth-quarter backlog conversion ratio to be similar to the fourth quarter of the previous fiscal year. Beazer Homes will report its full fourth-quarter results in November.
CPI Aerostructures Inc. (CVU) will begin production of pod structures and air management system components for Raytheon Co.’s (RTN) Next Generation Jammer Mid-Band program. The authorization comes with about $2 million in funding to begin work. A contract with a maximum value of $23.3 million is expected to be finalized by the end of the year. Delivery of the components is expected to begin in the last half of 2020 and end in the first half of 2021.
CPI Aerostructures also announced about $4.6 million in orders from Turkish Aerospace Industries. The multi-year purchase orders call for CPI Aerostructures to manufacture window assemblies on 109 T-70 helicopters over an estimated five-year period. CPI Aerostructures expects to begin deliveries by the end of 2019.
Ennis Inc. (EBF) reported that revenues for the second quarter of 2019 were up 10.3% year over year to $108.8 million. Net earnings for the quarter were $9.5 million, or $0.37 per diluted share, compared to net earnings of $9.6 million, or $0.37 per diluted share, in the same period one year ago. Earnings per diluted share missed the I/B/E/S consensus estimate of $0.39 by 5%.
Gross profit margin for the quarter was $32.5 million, or 29.8%, down year over year from $30.3 million, or 30.8%. CEO Keith Walters said Ennis’ gross profit margin continues to be impacted by recent acquisitions, which all had gross profit margins “considerably lower” than Ennis’, historically. The negative impact is expected to continue until the acquisitions are fully integrated.
Ennis also declared a regular quarterly dividend of $0.225 per share, in line with the previous declaration. The dividend is payable November 8 to shareholders of record October 11. The stock traded ex-dividend on Thursday, October 10.
Flexsteel Industries Inc. (FLXS) declared a regular quarterly dividend of $0.22 per share, in line with the previous declaration. The dividend was payable October 7 to shareholders of record September 20. The stock traded ex-dividend Thursday, September 19.
Hibbett Sports Inc. (HIBB) announced that Scott Humphrey will join the company as interim CFO effective September 29, replacing Christine Skold, who has fulfilled her contract term and accepted a full-time permanent position elsewhere in the company. Skold joined Hibbett Sports in April after Scott Bowman announced his resignation from his role as CFO that same month. Humphrey most recently served as CFO for Ciner Resources (CINR), a mining company located in Atlanta, Georgia.
Hurco Companies Inc. (HURC) reported that revenues for the third quarter of 2019 decreased 26% year over year to $58.5 million. Net income for the quarter of $3.5 million, or $0.51 per diluted share, decreased 46% year over year.
Hurco said European sales, which accounted for 52% of sales for the quarter, decreased by 31% year over year. The decrease was primarily attributable to a reduced volume of shipments of vertical milling machines in Germany and the U.K. Year-over-year sales also decreased in the company’s Asia-Pacific region, primarily in China. However, sales in the Americas, accounting for 36% of sales for the quarter, increased 8% year over year.
“The global market for machine tools is seeing the impact of uncertainty related to trade negotiations,” said CEO Michael Doar. “Whether impacted directly or indirectly, machine tool suppliers, builders, distributors and customers are all faced with an element of pricing pressure and uncertainty that ultimately impacts the consumption of machine tools.”
Hurco also declared a regular quarterly dividend of $0.12 per share, in line with the previous declaration. The dividend was payable October 14 to shareholders of record September 30. The stock traded ex-dividend Friday, September 27.
Mesa Air Group (MESA) entered into a memorandum of understanding with Mitsubishi Aircraft Corp. to begin talks on the purchase of 100 SpaceJet M100 aircraft, a revamped version of Mitsubishi’s smaller MRJ70. Under the memorandum, the companies set a target for 50 orders of M100 jets and purchase rights for an additional 50, with deliveries beginning in 2024.
RCI Hospitality Holdings (RICK) filed its 10-Q reports for the second and third quarters of 2019, with no changes to the preliminary income and cash flow statements previously released. The Nasdaq Stock Market accepted the company’s plan to regain listing compliance, which it had violated by not filing the aforementioned 10-Qs.
Additionally, RCI Hospitality reported preliminary fourth-quarter revenue trends. Through July and August, revenue for the nightclubs segment increased more than 6% year over year, with an improvement in same-store sales. Revenue for the Bombshells segment increased more than 50% year over year, with a more than 20% increase in same-store sales.
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