In baseball, home run hitters do more than just lift weights. They study the pitchers that are trying to strike them out. They look at the location of pitches, if it’s a curve ball or a fastball and, of course, the speed. Picking a home run-type stock takes the same diligence.
When I look for home run stocks I stick to a few key things that will weed out the pretenders from the contenders. Each step will eliminate more and more stocks and decrease your chances of striking out.
Where to Start
The first thing I look for is consistent increases in earnings estimates. The Zacks Rank is a great tool that helps me take the total universe of stocks down to only about 1,000. Zacks #1 Rank (Strong Buy) and Zacks #2 Rank (Buy) stocks have seen earnings estimates increases over the last few months. I cannot stress the importance of buying #1s and #2s enough.
The Zacks Rank is great for looking into the future, but I will also want to see what the company has done over the last few quarters. A great way to see this is through a “price and consensus” chart. I can quickly see if earnings have been moving higher or lower, which could signal other trends that I might not catch just looking at the last quarter’s results. I can also tell how closely the stock pays attention to the estimates based on how the stock reacts to changes in estimates.
Size Matters
Next you’ll want to look at market capitalizations. Bigger companies grow, but smaller and mid-cap companies have a much greater chance of doubling than the behemoths do. My sweet spot resides in companies that are in the range of $250 million to $5 billion. Sometimes I stretch the limits on each side of that frame, but for the most part I stick with what works.
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Only a few companies have great potential to increase their earnings beyond the normal 1 to 3-month Zacks Rank profit zone. These under-the-radar small and mid caps are primed to rack up positive earnings surprises quarter after quarter.
We’ll ride them past today’s erratic market for 12, even 24 months to realize their exceptional upsides. Gains could reach +50%, +100%, and more. Rare opportunity ends this Sunday, July 22.
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Along with the market cap, I try to make sure the company I am looking at has decent volume. This is a subjective idea, but generally I look for volume at acceptable levels for an institutional buyer to be able to step into or out of the stock without rocking the boat. Thin floats can wreak havoc on execution and the small guy will always lose that battle. A more subtle red flag is when you see volume decreasing in a big way. Dramatic declines in volume are indications that the general market is not that interested in the stock and there is usually a good reason for that.
Beats and Acceleration
Earnings beats are a symbol that management has a handle on what Wall Street wants. That is a concept that should not be underestimated. You want to own a stock that has a management team that can set the correct expectations for the future earnings. This metric is the easiest to manipulate, as a company can preannounce, but it goes more to the point that misses are big red flags. I like to see at least three positive earnings surprises but the more the merrier.
What I really like to see is the acceleration of earnings growth. When earnings increase, we smile. When they accelerate – each quarter is a bigger beat (in percentage terms) than the previous – we jump up and down. This implies that things are not only getting better, they are getting much better.
Understanding the Landscape
As part of my research I like to listen to a recent presentation more than a recent earnings conference call. These presentations are readily available in the investor relations site of most every company. You can learn much more from these presentations than you can from an earnings call. The presentations often give a clear picture of what the company does and how it expects to grow the business. Often times you will find an informative PDF of the slides that accompany the presentation. Just looking at those slides alone can be helpful.
Most companies like to say that they are unique and they don’t really have an exact comparison to point to. This is just plain false as everyone is out there trying to eat everyone else’s lunch. I try to make sure that I know who the competition is in each business line. If my pick is eating the lunch of a big behemoth, then I know there is room for growth. If it’s a new industry, I want to see all the competitors growing revenues. That will tell me that the whole pie is growing, not just one company’s share of that pie.
Finally
One part of the puzzle that really doesn’t take much up front effort is patience. Stocks don’t double overnight and itchy trigger fingers can cut you out of positions long before the move is made. Patience is a virtue, and investors that want to hit home runs better have some. Stocks move with the market, and rarely do we see big 20% and 30% moves. The slow and steady gains will pile up over time but you have to give those picks that time.
What To Do Next
You can build a portfolio of great names that have a Zacks #1 Rank and Zacks #2 Rank and watch them daily. You can monitor research reports from the big brokerages to get some deeper insights into the industries you have invested in. You can then stay even closer to your investments by listening to earnings conference calls to hear for yourself what the prospects are. You can do all of that on your own. Or, you can look into our Zacks Home Run Investor service that will help you find stocks with the potential to rack up impressive gains.
This long-term investment approach narrows down strong Zacks Rank stocks to the few that have exceptional potential to blast through our normal 1 to 3-month profit zones. These are companies that could continue to generate positive earnings surprises quarter after quarter.
In pursuit of gains amounting to +50%, +100, and more, we are prepared to ride stocks for 12, even 24 months. Be sure to check into this service now. Today’s market worries present us with a great entry point, and there is a special opportunity to save money that ends this Sunday, July 22.
All the best,
Brian Bolan
Brian is our aggressive growth expert and one of the hottest hands at Zacks with several double-digit gains already on the board. He is the editor of the Zacks Home Run Investor.
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