ROA


We not only wanted to test return on equity but also return on assets as a factor that can generate market outperformance. We defined return on assets (ROA) as net profit after tax divided by total assets. But I'm sure you can immediately see the shortcomings of using return on assets when selecting investments. Some companies, like auto manufacturers, need a lot of assets whereas others like software companies have hardly any assets that all. In the first example, return on assets is likely to be low, whereas is the second example it is likely to be extremely high.

However, it does not say how cheap or expensive the shares of the companies are priced, and that, as you saw with the valuation factors we tested, is more important.

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As you can see, ROA is not a very effective factor to use when selecting companies to invest in. Even though Q1 had higher returns than Q5, the results are not linear and the number of years this factor outperformed the market was only 58% for all three market size companies. Of all the single factors we tested, buying companies with the highest ROA was the second worst performing strategy you could have followed.