Watching This 1 Key Metric Could Help You Beat the Stock Market

This data marker can tell you exactly what you can expect from the future of companies, and whether that’s a little or a whole lot.

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New investors have likely already come across that when it comes to investing, choosing exchange-traded funds (ETF) that focus on an index can bring strong results. That’s certainly true. However, these days, it’s a bit risky if you opt for the S&P 500.

That’s because the S&P 500 and those ETFs are heavily invested in just seven companies. The “Magnificent 7,” while certainly magnificent, have been shaky as of late. Shares have climbed double digits and fallen double digits. And should we see that happen more often, this could lead the S&P 500 downwards, given they take up 30% of the market share.

So, if you really want to beat the Index while still investing safely, there is one key metric I would watch to beat the stock market.

ROIC

If you’re looking at individual companies, then zero in on one metric: return on invested capital (ROIC). The ROIC metric looks at a company’s net income and divides it by several factors. These are its common stock, preferred stock, long-term debt, and capitalized lease obligations.

The ROIC looks at the company on an annual basis and the bottom line shows how effectively management is using capital. Capital is provided by you, the investor. Yet even then, this can vary widely, especially if the company hasn’t been around for many years.

That’s why I would also narrow in on companies that offer 20 years or more of ROIC data. These companies are likely to see more stable results over time as they’ve brought in more capital. The companies likely have been able to use this capital to create lower debt, as well as invest along the way.

Getting into the numbers

Let’s look at the top companies on the TSX today to see where they fall in line on ROIC. Here, we’re going to consider a few things. First, we want to look at the companies with the highest market capitalization and are, therefore, the most valuable. Then, these have to be companies that have been on the market for more than 10 years.

This is especially beneficial given that these rules would get rid of riskier investments. That would include recent tech stocks, cannabis stocks, and other companies that are still working on creating more capital and paying down debt.

Again, this isn’t to say that if a company hasn’t been around for 10 years, you should ignore it. This is mainly to come up with a list of safe companies providing strong ROIC for newer investors. That way, much of the risk involved will be far lower.

The list

Looking at the top companies on the TSX today with the highest market cap, we can see that the top belong to Royal Bank of Canada, Toronto Dominion Bank, and Canadian National Railway, followed closely by Canadian Pacific Kansas City. Here is how they stack up.

STOCKMARKET CAPROIC
RY$183.28 billion3.6%
TD$142 billion3.5%
CNR$110.93 billion15.9%
CP$106.19 billion13.4%

So, as you can see, just because a company is valued more doesn’t mean there is a bigger return on invested capital. Moreover, it’s important to look at this research on a chart. The financial institutions have seen their ROIC drop in the last few years. However, CP stock has seen a massive decline after the investment in Kanas City Southern.

So, of all these, CNR stock certainly looks like the most stable stock and will likely continue returning lots of cash to investors for years and decades to come.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium service or advisor. We’re Motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer, so we sometimes publish articles that may not be in line with recommendations, rankings or other content.

Fool contributor Amy Legate-Wolfe has positions in Royal Bank Of Canada and Toronto-Dominion Bank. The Motley Fool recommends Canadian National Railway and Canadian Pacific Kansas City. The Motley Fool has a disclosure policy.

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