Using Percentile RanksDownload printable PDF
Financial data is of little use unless investors are able to place it in some context. We can do this through time-series analysis as well as with market or industry benchmark comparisons. Another popular way of comparing financial data across companies is with percentile ranking (sometimes also referred to as percent rank or percentage rank).
Chances are you have run across percentile rankings when viewing financial publications such as Investor’s Business Daily or at financial websites such as Yahoo! Finance or MSN Money. However, not everyone knows what percentile ranks mean or how to use them.
Percentile rank fields in Stock Investor Pro can be used to see how a particular company “stacks up” to the competition. They allow you to compare a company’s results in a certain area against that of the entire universe of companies. The percentile ranks in Stock Investor Pro are different from the sector and industry medians in the program. These allow you to compare various data points against those of all other companies in the sector or industry in which the firm operates. In contrast, a percentile rank shows where a company falls in relation to all other companies in the database.
Identifying Fields With Percentile Rank
Not all fields in Stock Investor Pro have a corresponding percentile rank. To find out whether a data point has a percentile rank, go to Field Definitions in the help system (Help—Contents and Index). Fields are listed in alphabetical order and by program data category. When you open a field definition page, you will find the characteristics of the data field listed, including its definition, its data table name, its data category, its field type and whether it has a percentile rank.
Percentile Rank Data In The Stock Notebook
Many of the data fields found on the various Stock Notebook tabs have corresponding percentile rank data displayed there as well.
For example, we look at relative strength data as of February 22, 2013, for General Dynamics Corp. (GD), an aerospace and defense company that offers services in business aviation; produces combat vehicles, weapons systems and munitions; and provides military and commercial shipbuilding, and communications and information technology. The Share Statistics subtab of the Overview tab shows GD’s relative strength index and rank. The relative strength index field indicates a stock’s performance versus that of a market index. For Stock Investor Pro, the S&P 500 index is used as the market; therefore, the relative strength index reflects the percentage of performance above or below that of the S&P 500. General Dynamics’ -6.19% relative strength index indicates that the stock has underperformed the S&P 500 by 6.19% over the last four weeks. This relative strength index places General Dynamics in the 24th percentile for the entire database of 9,883 companies, which means the company’s four-week relative strength is greater than 23% of all the companies in the database.
With price momentum, investors usually prefer a higher relative strength percentage rank. However, some investors seek stocks in the lower percentiles for a given field: for example, a value investor looking at price multiples such as the price-earnings ratio. Looking at the Multiples tab for Microsoft Corp. (MSFT) as of February 22, 2013, the company had a current price-earnings ratio of 15.3, which places it in the 46th percentile of the entire database. In other words, 53% of the companies in the database have a current price-earnings ratio that is greater than Microsoft Corp.
However, stocks with a low price-earnings ratio are not always desirable. Lower ratios may indicate a neglected firm that is undervalued. A high price-earnings ratio reveals that the stock is perhaps overvalued and, for some investors, too risky. With a high price-earnings ratio, an investor is paying for the greater potential placed on the future prospects of the company’s earnings.
Screening Using Percentile Ranks
Beyond simply viewing percentile rank data from the Stock Notebook, users may also integrate the data into their screening filters. To include any percentile rank field in a stock screen, you can choose these fields from the Rank group within the Screen Editor’s field picker. All such percentile rank fields are listed in alphabetical order and are part of the % Rank data category.
When screening for low price-earnings ratio stocks, you can establish absolute or relative filters. If you use absolute filters, such as screening for price-earnings ratios of less than 10, you must adjust the number over time to reflect current market environments. For example, the current median price-earnings ratio for the S&P 500 index of 18.2 (as of February 22, 2013) is significantly lower than its 24.2 median price-earnings ratio at the end of 2001. However, if you use the price-earnings percentile rank field, you can establish a filter that will automatically adjust to market conditions.
As an example screen, we begin by seeking out those companies whose current price-earnings ratios are in the bottom quartile of the entire Stock Investor Pro database (percent rank is less than or equal to 25%). As mentioned earlier, value screens are good at identifying neglected firms, but many of the companies you end up with deserve to be neglected. This is where secondary screens for financial strength play a helpful role to potentially identify stocks that either are poised for or are already participating in an upturn.
In this case, we add secondary screens for earnings and free cash flow growth, requiring a three-year growth rate for each that is in the top quartile of the database (percentile rank is greater than or equal to 75%). In addition, we want companies with below-average debt levels, so we add a condition that any passing companies must also have a long-term debt-to-equity ratio in the bottom half of the database (percentile rank is less than or equal to 50%).
Another value trap is buying a low-priced stock only to have it remain low priced, either because the stock deserves the low price or because the market never catches on to the mispricing. Our final filter attempts to avoid this pitfall by isolating those firms whose 13-week relative price strength is in the top decile of the database (percentile rank is greater than or equal to 90%).
As stated earlier, using filters such as the ones mentioned allows the screen to adjust to market conditions. As the market becomes increasingly rich or cheap, the screen still produces passing companies since it looks for stocks relative to how they are ranked in the market, as opposed to looking for an absolute number that excludes all stocks.
Keep in mind, however, that the results of a quantitative stock screen such as this does not mark the end of your analysis. It instead gives you a more manageable list of companies on which to perform additional analysis and due diligence before deciding whether to add them to your investment portfolio.