One Indicator for Market-Crushing Returns

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Can you pick winning stocks based on a single, publicly available figure? The notion seems completely absurd. If it existed, how could the entire fund management industry overlook such an indicator? However, there truly is a simple yet powerful sign to identify stocks that outperform the index: CEOs' ownership of their companies' stock.

I looked at the 20 stocks in the S&P 500 with CEO ownership greater than 5%, and found that an equal-weighted portfolio of these stocks produced a total return of 180.4% in the 10 years ended Nov. 1 of this year. During the same period, the S&P 500 returned nothing -- even with dividends factored in.

The list contains several high-profile stocks with well-known founder-CEOs at the helm, including (Nasdaq: AMZN  ) , Oracle (Nasdaq: ORCL  ) , and Dell (Nasdaq: DELL  ) . However, the top performer is decidedly low-profile: Airgas (NYSE: ARG  ) , with a stunning 1,026% return. Also in the top five: Hess Corporation (240%) and Leucadia National (NYSE: LUK  ) (234%)

Can CEO stock ownership alone explain superior returns? Perhaps I was simply looking at a statistical mirage. To make sure that these returns weren't simply a function of stock sector or market capitalization, I ranked the stocks in the S&P 500 by level of CEO stock ownership relative to the other stocks in their sector. (In a second run, I ranked them relative to other stocks within specified market cap ranges.)

The result held. Stocks with the highest level of CEO ownership still performed best, and they smashed those with the lowest level of ownership. The same held true when controlling for market capitalization:

Sample Group

Average Total Return, 
10 years to Nov. 1, 2010

Market Cap-Weighted Average Total Return,
10 years to Nov. 1, 2010

S&P 500, Highest Quintile of CEO Stock Ownership*



S&P 500, Lowest Quintile of CEO Stock Ownership*



S&P 500



*The top or bottom one-fifth among CEO ownership for each sector. Source: Author's calculations, based on data from Capital IQ, a division of Standard & Poor's.

Still, I remained skeptical of the results. Could the market really be overlooking something this obvious? Then I came across a June 2010 paper, CEO Ownership, Stock Market Performance and Managerial Discretion, in which the authors performed comprehensive tests on a large data set. They conclude:

We find that portfolios of firms with high managerial ownership strongly outperform the stock market... These results show that even a simple low-cost buy and hold strategy based on managerial ownership would have earned abnormal returns that are significant in statistical as well as in economic terms.

"Abnormal" is academic gobbledygook for "market-spanking," and as the authors stress, investors could have captured these returns in the real world. It certainly would have been worth their while. In some cases, the authors found that the excess return from stocks with high levels of CEO ownership was more than one percentage point per month.

The authors also found that the companies with a combination of high CEO ownership and high managerial discretion produced the highest excess returns. In other words, when the incentives of the person at the top of the company are aligned with shareholders', and that person has real leeway in running the business, shareholders reap premium returns.

There is perhaps no better example of this than Berkshire Hathaway (NYSE: BRK-B  ) (NYSE: BRK-A  ) , the holding company built by Warren Buffett. Until he donated part of his stock to charity, Buffett was Berkshire's largest shareholder, and he has enormous freedom in steering the conglomerate. In turn, Buffett does not interfere with the CEOs of Berkshire's operating companies, who are free to run their businesses as they see fit. That very powerful dynamic has doubtless contributed to Berkshire's market-crushing returns.

The Motley Fool's Million Dollar Portfolio, a real-money portfolio that owns the best stock picks from across the Fool's newsletters, has developed a framework for evaluating CEOs, and stock ownership is one of its four criteria. It's no surprise to find Berkshire among the portfolio's biggest positions. Today, the service will open to new members for the first time in a year. If you'd like to find out more about putting this market-beating service to work for you, simply add your email address in the box below.

Fool contributor Alex Dumortier, CFA has no beneficial interest in any of the stocks mentioned in this article. Berkshire Hathaway is a Motley Fool Inside Value recommendation., Berkshire Hathaway, and Leucadia National are Motley Fool Stock Advisor selections. The Fool owns shares of Berkshire Hathaway and Oracle. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

Read/Post Comments (11) | Recommend This Article (41)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On November 16, 2010, at 5:37 PM, crabbydog wrote:

    "high CEO ownership and high managerial discretion"

    How does one find these stocks? Is there a scan that will show either or both of these conditions? Or is it a case of manually trawling through the whole market to find these companies?

    Do the results hold good over multiple periods? eg if you go back a year and rerun the tests and keep doing so for say 30 years does it hold?

    It seems logical to work. People with a significant stake and who run the company have a real incentive to maximise returns and undoubtedly a large emotional investment.

  • Report this Comment On November 16, 2010, at 7:24 PM, jrice wrote:

    TMF is enamoured with percentages. One hundred dollars growing 180 per cent becomes 100*(2^1.8) = $348. Annualized over 10yrs, that's a 13.3% cagr (compounded annual gain rate). I can't really justify the adjective "spanking" to that, especially after Fed & state taxes and inflation. Hopefully we can do better. Fool on.

  • Report this Comment On November 16, 2010, at 8:05 PM, TMFAleph1 wrote:

    "One hundred dollars growing 180 per cent becomes 100*(2^1.8) = $348."

    I'm not sure how you came up with that manipulation, but 180% growth applied to $100 produces an end amount of $100 (1+1.8) = $280. The annualized return over a 10-year period is 10.8%. If the market's annualized return over the over the same period was 0%, nearly 11 percentage of points outperformance is most certainly a spanking.

    Alex Dumortier

  • Report this Comment On November 16, 2010, at 8:45 PM, Radiance08 wrote:

    like Apple, one of my faves...

    Interesting concept, let's check it out.

  • Report this Comment On November 17, 2010, at 7:22 AM, foolishmutley wrote:

    Fools Gold yet again ! Executive insider purchases don't always mean the shares being bought are headed higher for the obvious reason that CEO's and directors are now forced to disguise absurd obscene bonus payments by taking up shares immediately after payment !

    Also it took me 10 secs of ''research'' to find this SPANKING deal, while noting the recent example of Wachovia:--

    In July, Robert Steel, the new chief executive of Wachovia, bought 1 million shares of the bank at $15.32 to $17.02 each. The lender almost collapsed soon after and sold itself to Wells Fargo Co. (WFC 27.19, -0.46, -1.66%) in a deal that valued Wachovia at roughly $7 a share at the time.

  • Report this Comment On November 17, 2010, at 11:31 AM, TMFAleph1 wrote:

    Obviously, a single example outweighs a rigorous statistical analysis.

    Alex Dumortier

  • Report this Comment On November 17, 2010, at 7:41 PM, diesel5 wrote:

    Are yoursaying- the average S&P stock went up 186% over the past 10 years, but if you market cap weight it, they went up 0%. I was surprised to to see the 186% return for the S&P 500 number in column one. Can you explain this??

  • Report this Comment On November 17, 2010, at 8:13 PM, TMFAleph1 wrote:


    186% is the (unweighted) average return of the S&P 500's current component stocks over the past decade.

    This may look paradoxical but keep in mind that mega-cap stocks, which represent the bulk of the S&P 500, produced abysmal returns during this period. In the 10 years to Oct. 31, 2010, the Dow Jones Industrial Average, which represents roughly three-fourths of the weighting of the S&P 500, lost 1.3%.

    Alex Dumortier

  • Report this Comment On November 17, 2010, at 9:55 PM, jrice wrote:

    <I'm not sure how you came up with that manipulation, but 180% growth applied to $100 <produces an end amount of $100 (1+1.8) = $280.

    Agreed. My error. So from $100 to $280 over that 10yrs is 10.8% cagr which at least matches the oft touted historical long term (long compared to 10yr) equity return.

    Subtract taxes (~25% total Fed & CA state in my bracket) off the $280-$100=$180 long term cap gain and I'm left with $180-.25($180)=$180-$45=$135 => 3% cagr which sounds alot like the oft touted long term inflation rate. My $100 turned into $100...of which, hopefully, only an insignificant amount was spent on frictional costs, e.g. membership fees. Ok, I could have done worse; I see the benefit of CEO ownership over that 10yrs; but, again, hopefully we can do better. I don't need to be wealthy; just want to avoid having to dumpster-dive, not there is anything wrong with dumpster-diving, I'll do what I have to do, but I'm feeling lazy. I'm definitely going to have to move out of bankrupt CA and quite possibly out of the bankrupt US - problem there being finding a foreign country not only where the rule of law prevails but also which is not more of a legalized kleptocracy like this one already is. I've heard a very affordable cost of living can be had in some central american countries. Two friends just moved to Vancouver after a lengthy (2yr) and Very thorough application process; I wonder how Canada is handling the drug cartel problem – have to consult Stratfor on that. Just thinking out loud here. Fool on.

  • Report this Comment On November 17, 2010, at 10:18 PM, Diagoras wrote:

    @jrice I think you made an arithmetic error. If you start with $100, and end with $280 total, your gain after taxes is $135, but that is only your gain, and does not include your principal. Thus, your final sum at the end of ten years is $235. 2.35^(1/10) equals slightly over 1.089, or an 8.9% yearly return.

  • Report this Comment On November 17, 2010, at 10:28 PM, TMFAleph1 wrote:


    Diagoras has it right; you have to divide the total end amount by the starting amount.

    Furthermore, if you earn 11% percentage in a period in which the index earned 0%, you can expect to earn more than 11% in a period in which the index earns its historical average return. Thus, your long-term return would be higher than stocks' historical return.

    Alex Dumortier

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