Stock Picking Strategies

There are many stock picking strategies. I have summarized what I consider to be the major points of a few of the best known "gurus" on Wall Street. If you are interested in a particular strategy you should read and study the original,complete source. These strategies all focus on a "value"/"fundamental" approach. Note* I'm not endorsing any of these strategies - they are offered for your information.

Peter Lynch's 25 Golden Rules
from "Beating The Street"
1. Investing is fun, exciting, and dangerous if you don't do any work.
2. Your investor's edge is not something you get from Wall Street experts. It's something you already have. You can outperform the experts if you use your edge by investing in companies or industries you already understand.
3. Over the past 3 decades, the stock market has come to be dominated by a herd of professional investors. Contrary to popular belief, this makes it easier for the amateur investor. You can beat the market by ignoring the herd.
4. Behind every stock is a company. Find out what its doing.
5. Often, there is no correlation between the success of a company's operations and the success of its stock over a few months or even a few years. In the long term, there is a 100 percent correlation between the success of the company and the success of its stock. This disparity is the key to making money; its pays to be patient, and to own successful companies.
6. You have to know what you own, and why you own it. "This baby is a cinch to go up!" doesn't count.
7. Long shots almost always miss the mark.
8. Owning stocks is like having children - don't get involved with more than you can handle. The part-time stock picker probably has time to follow 8 to 12 companies, and to buy and sell shares as conditions warrant. There don't have to be more than 5 companies in the portfolio at any one time.
9. If you can't find any companies that you think are attractive, put your money in the bank until you discover some.
10. Never invest in a company without understanding its finances. The biggest losses in stocks come from companies with poor balance sheets. Always look at the balance sheet to see if a company is solvent before you risk your money on it.
11. Avoid hot stocks in hot industries. Great companies in cold, non-growth industries are consistent big winners.
12. With small companies, you're better off to wait until they turn a profit before you invest.
13. If you're thinking about investing in a troubled industry, buy the companies with staying power. Also, wait for the industry to show signs of revival. Buggy whips and radio tubes were troubled industries that never came back.
14. If you invest $1000 in a stock, all you can lose is $1000, but you stand to gain $10000 or- even $50000 over time if you're patient. The average person can concentrate on a few good companies, while the fund manager is forced to diversify. By owning too many stocks, you lose this advantage of concentration. It only takes a handful of big winners to make a lifetime of investing worthwhile.
15. In every industry and every region of the country, the observant amateur can find great growth companies long before the professionals have discovered them.
16. A stock-market decline is as routine as a January blizzard in Colorado. If you're prepared, it can't hurt you. A decline is a great opportunity to pick up the bargains left behind by investors who are fleeing the storm in panic.
17. Everyone has the brainpower to make money in stocks. Not everyone has the stomach. If you are susceptible to selling everything in a panic, you ought to avoid stocks and stock mutual funds altogether.
18. There is always something to worry about. Avoid weekend thinking and ignore the latest dire predictions of the newscasters. Sell a stock because the company's fundamentals deteriorate. Not because the sky is falling.
19. Nobody can predict interest rates, the future direction of the economy, or the stock market. Dismiss all such forecasts and concentrate on what's actually happening to the companies in which you've invested.
20. If you study 10 companies, you'll find 1 for which the story is better than expected. If you study 50, you'll find 5. There are always pleasant surprises to be found in the stock market - companies whose achievements are being over looked by Wall Street.
21. If you don't study any companies, you have the same success buying stocks as you do in a poker game if you bet without looking at your cards.
22. Time is on your side when you own shares of superior companies. You can afford to be patient - even if you missed Wal-Mart in the first five years, it was a great stock to own in the next five years. Time is against you when you own options.
23. If you have the stomach for stocks, but neither the time nor the inclination to do the homework, invest in equity mutual funds.
24. Among the major stock markets of the world, the US market ranks eight in total return in the past decade. You can take advantage of the faster growing economies by investing some portion of your assets in an overseas fund with a good record.
25. In the long run, a portfolio of well-chosen stocks and/or equity mutual funds will always outperform a portfolio of bonds or a money-market account. In the long run, a portfolio of poorly chosen stocks won't outperform the money left under the mattress.

Beardstown Ladies
from "Common-Sense Investment Guide"-
Available in paperback
Industry Ranking - Stocks that Value Line ranks in the top third of their industry, preferably in the top 25.
Timeliness - A prediction of "relative price performance for the next 12 months" - how fast its price will grow relative to other stocks. Value Line ranks "timeliness" from 1 to 5 - You picks should have a rating of 1 the highest, or 2 above average.
Safety - Value Line measures safety around the volatility of a stock's price around its own long term trend. The smaller its fluctuation, the lower the rating, the safer the stock. Your picks should have a rating of 1 the highest, or 2 above average.
Debt - The lower the debt the better the company. Picks should have debt equal to no more than a third of the company's total assets. Value Line has this or call the company for their annual report - this is a good idea anyway. Along with the company reports you also get tons of information about the company. Remember the more information the better.
Beta - A number that compares the movement of a stock's price relative to that of the total market. Beta of 1 means a stock price moves up and down at the same rate as the market as a whole. Beta of 2 means when the market drops or rises 10% the stock price is likely to move double that, or 20%. Pick stocks with a beta between .90 and 1.10 - these are not much more less volatile than the whole market. Again find in Value Line.
Sales and earnings - Pick stocks with five years of growth and earnings and sales, and projected growth 12 - 15% in the next several years.
Price-earnings ratio - p/e is the price of a security divided by earnings per share, determines the cost of a stock relative to its projected earnings. Track the p/e ratio for the last five years and pick companies that have a p/e ratio at or below average for the period. Again found in Value Line.
Upside-down ratio - Used to look for stocks that are more likely to rise than fall. Value Line analysts develop estimates of projected highs and lows based on their knowledge of each company and their predictions for industry and economic growth.
Management - Pick companies who have superior management with good track records. You want people who know what their doing. Read all you can get your hands on about the management.
This should get you going and provide a framework to help you in picking those winning stocks that should do well over time. Remember you can't time the market - it just doesn't work!
**Note - this approach based entirely on Value Line Investment Survey.
DAVID SCHAFER
Manager, Strong Schafer Value Fund
1. Stocks must be cheaper than the market. A low relative P/E ratio improves the chances that the stock has plenty of room to grow.
2. Stocks must have superior growth prospects over the next several years. EPS (earnings per share) growth projections must be better than those of the average S&P stock.
3. Hold an equal dollar amount of shares in every stock your own.
4. Don't over invest in one industry. The driving force is the attributes of individual stocks.
5. Look abroad for bargains.
6. Don't sell until there's a reason to sell. If earnings growth slows to a rate that is less than that of the S&P 500 sell. Have a definite target price at which to sell.

Warren Buffett
Chairman - Berkshire Hathaway Corporation

The greatest investor of all time. Mr. Buffett doesn't speak or write about his strategy. Others have summarized and written about his strategy through what he has said at his annual shareholder meeting. They are held in Omaha, Nebraska. The next one is May 4, 1998. I going to try and attend.
He is a long term investor. Feels you should invest in companies that you feel comfortable with, and understand even if the markets closed for a few years and you couldn't sell.
Investing is buying a piece of the business, rather than buying shares of stock.
He focuses on companies with strong growth prospects, and often a strong international presence.
He prefers to hold a few GREAT stocks rather than many good stocks. He doesn't feel you need to necessarily have a diversified portfolio if you choose stocks wisely.
Regarding watching the market he refers to "Mr. Market," an individual who owns stock in every company, and shows up everyday willing to buy your shares or sell you more. Sometimes Mr. Market is rational and sometimes he's not. Sometimes he's afraid of missing the next hot stock and will pay just about anything for that company's shares. Sometimes he doesn't want to get stuck with a loser so he'll sell at whatever you'll give him. Mr. Buffett watches Wall Street only to the extent necessary to take advantage of Mr. Market's shortcomings.
Mr. Buffet considers debt, return on equity, changes in operating margins, cash flow, capital expenditures.
He determines the value of a company by totaling the net cash flows he expects to occur over the life of the company discounted at the appropriate interest rate (30 yr. bond rates).
Berkshire Hathaway
Study all the pages on this homepage, especially the Owner's Manual and Chairman's Letters.

You might want to obtain the Annual Reports compilation from 1977 - 1995. Also ask for the 1996 Report. Available for $15 ($30 outside USA). Request from Berkshire Hathaway, 3555 Farnam St, Suite 1440, Omaha, NE 68131. Phone: 402-346-1400.These are the only documents written by Warren Buffett. (Plenty of wit, wisdom, and his investment strategies.)

If you'd like to have the benefits of Warren Buffett without studying anything, consider ownership of his A or B stocks.

WARREN BUFFETT ARTICLES
How a Multi-Billionaire Got that Way
Warren Buffett by Donald Chew, Wall Street Journal
Why Not to Invest with Warren Buffett Kristin Davis, The Kiplinger Washington Editors
How Smart is Warren Buffett By John Rothchild, Time.
If Buffett were a Real Man By John Rothchild, Fortune, Oct. 14, 1996.
Benefit from Buffett Investor Guide.

 

Dow Dividend Yield Strategy
(Dogs of The Dow)

A popular strategy that was originally set forth in the book "Beating The Dow," by Michael O'Higgins. It does seem to work consistently over time, easy to manage, simple to understand, and safe. It is a method where you buy blue chip stocks from the Dow Industrial Average (they're all blue chips), once a year that are the cheapest and paid the highest dividends the previous year.

Basic Terms Involved:

Dow 30 - refers to the index of 30 very large, multi-national corporations picked by Dow Jones, a financial information company. This index represents the industrial base of the United States. Each company has at least $7 billion in annual sales and a market capitalization of $2 billion to $97 billion. This is called the Dow Jones Industrial Average (DJIA)
Dividend Yield - the annual dividend rate of a stock divided by it's share price. Both numbers can be found in your local newspaper.
How You Implement It:

Once a year (it doesn't matter when), choose the 10 stocks from the DJIA which had the highest dividend yield in the previous year. At the end of the year, check to see if any of the 10 have changed and sell those stocks that are no longer the top ten in dividend yield, and replace them with the new stocks.The important thing seems to be consistentcy - buying and selling at approximately the same time each year, and not repoding to the market's ups and downs throughout the year.
Variations of The Basic Strategy

The Dow Ten Strategy - divide your money equally between the 10 stocks on your list.

The Dow Five Strategy - pick the five lowest priced stocks from the 10 stocks on your list and divide your money equally among those.

The Foolish Four (2-2-3-4-5) - drop the highest dividend yield stock from the Dow 5 and double up your money on the #2 ranked stock. This version is touted by The Motley Fool - a very well-thought of investing site. I recommend spending time here. You'll learn a lot. A good education site - they maintain a portfolio of real money. Teach you about investing with with and humor.
How Has It Performed
My reading shows it has achieved a 17.7% average annual return since 1973. The DJIA has returned approximately 12% annual return during that same period. **(the effects of commissions are not included)

I'm going to study this strategy in more detail soon. I may have more to report later. For more information see the Dogs Of The Dow site. This site tracks last year's dogs and lists the entire DJIA and how they did last year, and how they're performing now. Comprehensive FAQ, links to Dow web pages, etc. Very comprehensive.

Another appealing part of this strategy is now with the advent of very inexpensive commissions using discount brokers and trading on line the returns should be even better.