An Analysis of a Free Cashflow Portfolio Investment Strategy

Abstract

Many investment strategies are based on information derived from, or expectations related to, information in financial statements. Generally Accepted Accounting Practice (GAAP) are interpreted differently in various countries and this reduces the reliability of financial statements for international investors. This paper uses a market-based accounting research (MBAR) framework to examine an investment strategy for portfolio selection in domestic (South African) and foreign (African) equities. The strategy is based primarily on free cash flow and reduces reliance on the varied conventions of preparation of financial statements. The investment strategy selects firms that consistently generate free cash flows, have low free cash flow multiples, and low financial leverage. On average the selected equities in the domestic and foreign portfolios have systematic risks that are less than one, so without additional risk, the investment strategy yields higher returns than an international investment index. Further findings are that a domestic portfolio of Johannesburg Stock Exchange (JSE) listed equities designed with the same criteria as the foreign portfolio also earns returns that exceed the JSE Actuaries Overall Index (JSEAOI).


African Journal of Finance and Management Vol.7(2) 1999:1-12