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A strong chart
Ideally, everything you need to know about a stock could be divined from financial statements. But the market doesn't work that way. Often, a stock's price chart reveals information, sometimes good, sometimes bad, that hasn't yet been made public.Consequently, insisting on a strong price chart is an ingredient common to many successful stock-picking strategies.
StockScouter bases its technical grade on a stock's price performance and awards its highest scores to stocks showing consistent and steady uptrends. It penalizes stocks with volatile price charts. Unlike StockScouter's 1 to 10 overall scoring system, for individual categories, it uses A to F letter grades, where A is best.
Screening parameter: Technical grade = A
Earnings momentum
StockScouter's fundamental grade evaluates earnings-momentum factors including historical and forecast earnings growth, recent changes in analysts' earnings forecasts and earnings surprise history (the difference between forecast and actual reported earnings).Last year, I allowed only "A" grades in this category. However, this year, with my additional screening rules, that requirement proved too limiting, so I also allow "B" grades. Try changing that requirement to "A" only, if you want to reduce your risk.
Screening parameter: Fundamental grade >= B
Profitability
Stocks that report the same earnings may not be equally profitable. For instance, say two firms reported $10 million in earnings last year. However, Company A's shareholders had to invest $100 million in assets such as plants and equipment to generate that return while Company B managed the same profit with only $50 million invested.So Company B produced the same profit as Company A, but only required half as much cash from its shareholders.
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Profitability ratios compare a company's income to various measures of shareholder investment. Return on assets (ROA) is net income divided by total assets. The higher the ROA, the more profits a company can reap from each dollar of assets.
Last year, I required a 15% minimum ROA, which ruled out 90% of all U.S. listed stocks. This time, to accommodate additional screening requirements, I'm allowing stocks with 10% or higher ROAs. With only 20% or so of all U.S. stocks passing, that is still a tough requirement.
Screening parameter: Return on assets >= 10
Stay out of debt
Given the recent turmoil in the credit markets, the last thing you need is a high-debt stock that could be nailed by higher interest costs when it comes time to refinance its loans.The debt-to-equity ratio, which is long-term debt divided by shareholders' equity (book value), is a standard debt measure. A zero debt-to-equity ratio means the firm carries no long-term debt, and the higher the ratio, the higher the debt.
There's no hard-and-fast rule about what ratio signals high debt. I set my limit at 0.4, which rules out two-thirds of U.S. listed stocks.
Screening parameter: Debt-to-equity ratio <= 0.4
Not too cheap
Most stocks trade at well above $10 per share. Very cheap stocks usually trade at those levels because market players see long-term problems. Many times, they are right. Buying cheap stocks, say those trading below $5 per share, adds unnecessary risk. Try raising the minimum to $10 if you want to reduce your risk.Screening parameter: Last Price > = $5
Not too big
Because, as described, small stocks have handily outperformed big stocks late in the year, I've added a term that precludes stocks with market caps above $15 billion, roughly around 10% of U.S. listed stocks.Screening parameter: Market capitalization <= 15 billion
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Numbers that countFred Frailey, editor of Kiplinger's Personal Finance, explains what numbers he uses to gauge the market’s strength.
My Hot Stocks screen turned up stocks with no industry duplication (Sigma Designs and Stratasys are both shown as computer peripheral makers, but are actually in entirely different businesses). See today's list.
| Company Name | Industry | Recent Price | |
|---|---|---|---|
Electronics wholesale | $7.75 | ||
Heavy construction | $26.41 | ||
Apparel stores | $33.20 | ||
Biotechnology | $40.90 | ||
Farm and construction machinery | $48.52 | ||
Oil and gas equipment and services | $57.55 | ||
Computer peripherals | $55.66 | ||
Semiconductor equipment and materials | $12.31 | ||
Computer peripherals | $28.23 |
This screen is intended for a strong market. Consider the market strong when the S&P 500 Index ($INX) is trading above its 50-day moving average.
As is the case for all screens, consider the stocks listed as candidates for further research, not a buy list.
At the time of publication, Harry Domash did not own any of the stocks mentioned in this article.
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