HAVING A WELL-DEFINED stock-picking strategy is one thing. Putting it to work is quite another. With a seemingly endless number of stocks to choose from, finding even 100 that meet your specific criteria — say, low P/Es and healthy earnings growth — could take months of poring over financial reports. We're assuming you have better things to do.
So why not harness the power of the PC to make the job easier? That's the idea behind stock screening. With the right software and a little know-how, you can sift through a massive database of stock prices and financial data to find just about any kind of company you want. The trick is to devise formulas that isolate the "right" stocks for your objective. It's a little like chili recipes — everybody's got a favorite.
Here at SmartMoney University, we've picked out four basic recipes that many investors find tasty. They're called Three-Point Value, Fast Growth, Bargain Growth and Not Just Income, and we post the latest results for all of them weekly. To explain what each looks for, we need to explain the difference between the two main stock-picking approaches: value and growth.
What determines whether an attractive stock is a growth pick or a value pick? After all, any stock that will be worth more tomorrow is a value today. And all stocks are expected to provide growth for your money. The terms, we're afraid, are rather vague. The two styles should be called "unloved" and "popular." And they each combine elements of the other.
Value stocks should have low share prices relative to some measure of income, be it sales, earnings or cash flow. (That's another way of saying they should have low P/E, P/S or P/CF ratios.) And analysts' recommendations for these companies should be closer to Hold than to Buy. That may sound counterintuitive, but value hunters want companies that are being snubbed by Wall Street now, and show potential to earn more respect soon.
Growth investors want nothing to do with such wallflowers. They look for a history of big increases in sales and earnings, and projections for more of the same. And they're often willing to pay full price for attractive candidates. Growth stocks are characterized by analyst recommendations of Buy and Strong Buy.
Which approach is better? They're both about the same in terms of performance when you look at the broad market over long periods. But the growth approach works better for smaller companies, and value-picking for more-established ones. And keep in mind that companies often change classifications. Young companies start out as fast growers with impressive stock gains. But they sell off at the first sign that those growth rates are slowing, sometimes becoming good values. That's why people say that when growth investors sell, they sell to value investors.
So the difference between growth and value comes down to popularity, but the difference to individual investors is one of comfort. Growth stocks tend to move quickly but can be volatile. Value stocks aren't as helter-skelter, but you may have to wait around awhile for them to regain their popularity.
If the thought of holding highfliers that could turn south gives you the willies, see our Three-Point Value screen. It's a classic value search that looks at sales, earnings and cash flow — the head, feet and belly, respectively, of companies' income statements. If, however, you're willing to take on more risk in exchange for potentially faster returns, take a look at our Fast Growth screen.
Can't decide? Neither can we, which is why the Bargain Growth screen is our favorite. It uses a powerful measure called the price/earnings-growth, or PEG, ratio to look at companies' P/Es relative to their projected earnings-growth rates.
And lastly, if you want stocks that provide income (that is, an investment that pays out a regular dividend) you should check out our Not Just Income screen. It tracks down companies with growth potential and fat yields.
WARNING: The next several pages may produce a feeling of love-at-first-screen. If that happens, don't worry — you're not alone. Proceed directly to SmartMoney.com's Stock Screen archive. Those stories discuss screening techniques and highlight individual picks, and are free after they've been out for seven days. Select subscribers get Stock Screen stories hot and fresh, and gain access to our powerful stock-screening tool. Choose from our menu of 20-or-so recipes, or build your own using any of our more than 100 criteria.
Just remember to research thoroughly any stocks you find before buying them. After all, as capable as our screener is, its job is simply to narrow the universe of choices down to a manageable handful. Yours is to look through that handful for one that deserves a place in your portfolio.
