Stock-Selection Strategy
This page explains the methodology of choosing which stocks to buy and at what price each stock should be sold.
My strategy has undergone radical changes since I began this website.
Previously, I screened for stocks that were the most “beaten down” with the assumption that almost all stocks would eventually bounce back. The recent recession proved that stocks do not always bounce back and that established corporations (like Circuit City) can indeed go bankrupt.
I have since concluded that which companies (stock) you buy is the primary consideration rather than the price at which you buy “mediocre” companies. To paraphrase Warren Buffet, “It is better to buy excellent companies at a fair price, than fair companies at an excellent price.”
After combing my investment books and re-examining my track record, I concluded that dividends and related characteristics would be the core of my new strategy.
I went to a well-known website that publishes information on the best dividend stocks, including those companies with the best track record of increasing dividends.
These are the new criteria;
(1) Companies that have a steady record of increasing dividends for the past 20 years.
(2) Companies must have positive and growing Shareholders’ Equity and Net Asset Value.
(3) Dividends doubling in the period 2000 to 2011.
Long-Term Stock Performance
Each and every one of the stocks significantly outperformed the S&P over the long term.
The requirements (2) and (3) reduced the 75 companies from (1) that had a good 20-year record to 12.
Of the 12 stocks selected, 6 stocks are trading at or below reasonable valuations.
The stock portfolio initiated on September 22, 2012 has outperformed the S&P by about 5% up to Jan 11, 2013.
These are the guidelines of each stock at the time it is purchased:
(These are mostly value criteria from financial ratios.)
- The company has recently had a high level of insider purchases.
- Price/earnings ratio is less than 14.
- Price/free-cash-flow ratio is less than 10.
- Dividend yield is more than 2% and is more than 50% higher than its own average yield for the last 5 years.
After a stock has met these contrarian and value guidelines, I examine its financial statements to ensure that the company is financially viable. At the time of purchase, the stock should have a debt/equity ratio under 40% or significantly less than the industry average. A stock meeting the above requirements, however, does not guarantee that it will be included in Stock Picks
You can screen your own stocks at Yahoo! Stock Screener.
These are the Ratings and how you should use them.