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| The Basics | Find great stocks in 2 minutes or less
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- Check #3: Disqualify any candidate with less than $40 million in sales over the last 12-months. Machine-tool products maker Schmitt Industries, with 12-months sales totaling only $10 million, flunked, whittling my list down to 12 survivors.
Catch them on the rise
I know its not fair, but many times, in-the-know players hear bad news before the company gets around to telling the public. When price charts start a downtrend, its often your first clue that big investors -- who often are more plugged-in at a company -- are aware that something is amiss.
Whatever, the reason, a downtrending price chart warns you that the share price is likely headed lower before it recovers. A stock trading above its 200-day moving average is in an uptrend, which is what you want, and one trading below its 200-day average is in a downtrend.
- Check #4: Avoid stocks trading below their 200-day moving averages. That check eliminated Internet services giant Yahoo! and networking stalwart Cisco Systems, cutting my survivors list down to 10 stocks.
Chart your course
As a fundamentalist investor by nature, it pains me to tell you that stocks that have outperformed the market over the past year are likely to continue their winning ways, while weak stocks usually continue to disappoint shareholders.
But thats a fact supported by many research studies. Relative strength (RS) measures how a stock has performed compared to the overall market over a particular period. For instance, an 80 RS means the stock has outperformed 80% of all stocks. MSN Moneys Company Report lists each stock's RS for the last 3, 6, and 12-months. In my experience, the 12-month figure is the most reliable.
Setting a minimum acceptable relative strength is somewhat arbitrary, but at the very least, all of your candidates should show a minimum 50 RS, which means that their shares performed as well as 50% of all stocks over the past year. You wont go wrong if you increase the minimum to 60 or even 70.
- Check #5: Rule out stocks with12-month relative strength below 50. Womens apparel retailer AnnTaylor Stores, with a 39 RS, flunked that test.
What the pros know
Institutional owners are mutual funds, pension plans, banks, and other big holders. Institutional ownership is the percentage of a companys shares held by these big players. Institutional ownership for in-favor growth stocks typically runs 50% to 95% of shares outstanding, and rarely below 40%.
If institutions dont own a stock, it usually means they dont think they can make money holding it. It doesnt pay to try to outguess the big boys.
- Check #6: Avoid stocks with less than 40% institutional ownership. 7-Eleven, with 17% institutional ownership, flunked, cutting my survivors list down to 8 stocks.
Those who cannot learn from history . . .
Most growth investors look for stocks growing sales and earnings at least 15% annually. While historical performance doesnt guarantee the future, its a good place to start. With that in mind, I required a history of at least 15% average annual sales and earnings growth over the past five years.- Check #7: Require 15% minimum five-year average annual sales and earnings growth. Youd think that would be an easy hurdle for growth stalwarts such as stockbroker Charles Schwab and chipmaker Texas Instruments, but both flunked. Schwab averaged single-digit average annual losses for both sales and earnings. Texas Instruments managed only 3% average annual sales growth over the past five years, and its net income actually dropped.
Follow the StockScouter
MSN Moneys StockScouter evaluates all stocks using a proprietary formula that evaluates a host of fundamental and technical (stock chart) factors. StockScouter scores range from 1 to 10, where higher is better.
Stocks with scores in the 8-to-10 range are expected to outperform the market over the next few months and those with scores below 4 are expected to underperform. MSN Money has offered StockScouter for several years now and evidence is accumulating showing it works.
- Check #8: Disqualify stocks with StockScouter scores below 8. Adult school operator Education Management, with only a 4 score, flunked, cutting my survivor list down to five stocks.
Go for growth
Growth stocks usually trade down when earnings growth slows. The last test confirms that analysts expect earnings growth to continue at a minimum 15% annual clip, for at least the current and next fiscal year. Click on More Analyst Estimates (under the Earnings Estimates section on the Company Report page) to check those numbers.
- Check #9: Require at least 15% annual earnings growth for the current and next fiscal years. Annuity and life insurance provider AmerUs Group, with current and next-fiscal-year growth estimates of 10% and 11%, respectively, flunked.
The survivors
Four stocks cleared our tests:- Pharmaceutical services provider Pharmaceutical Product Development;
- Womens and mens accessories retailer Coach;
- Medical device maker St. Jude Medical;
- Home-improvement retailer Lowes.
Passing these nine checks means that these stocks are worth analyzing further. It doesnt mean that they are automatic buys.
At the time of publication, Harry Domash did not own or control shares of companies mentioned in this column.
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MSN Money's editorial goal is to provide a forum for personal finance and investment ideas. Our articles, columns, message board posts and other features should not be construed as investment advice, nor does their appearance imply an endorsement by Microsoft of any specific security or trading strategy. An investor's best course of action must be based on individual circumstances.
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