A way to select stocks for a long-term strategy is done with a bottom up approach. The best way to do this is by using a screener. A good screener should be able to give a good number of stocks (between 3 to 10), not too few or not too many, that we can further analyze.
My favorite screener gives stocks with strong fundamentals with positive price action in the last one year. The selection of stocks gives us a start. Stocks that we have selected should be further scrutinized before we purchase any of them. Here are the 6 parameters that I use to screen stocks:
- Price is $5 or above: This ensures that we do not get penny stocks. If you don’t have the stomach for penny stocks, stay away from them. They can often be bad news. Prices of penny stocks often drop significantly and they can reduce your investment great time. So stay with stocks with better stability, i.e. mid and large caps.
- EPS Growth (last quarter) is 25% or above: Growth is what we are after. We want to ensure that the company’s earning in the last quarter is significantly better than the same quarter in the previous year in proportion to its capital.
- Revenue Growth in the last 5 years is 25% or above : Again, growth! Sales by the company must be increasing significantly in the past 5 years. We want companies that have the capability to increase its sales from year to year consistently.
- Return on equity is 20% or more: The company must show that it is efficient in using its capital in turning it into revenue.
- Volume range is greater than 100,000: This ensures that many investors have interest on the stock, i.e. the stock is liquid.
- Performance vs Industry is 10% or greater in the last 52 weeks: The price of the stock as compared to other companies’ within the same industry should be better. Companies selected do not have to be leaders in their respective industry, but they certainly must not be laggards.
I use TDAmeritrade as my broker. They enable their customers to set up their own screener’s configuration. Customers may have screeners configured to their preference, such as selection based on financial ratios or technical indicators.
With the screener that I suggest, we should be able to find a few stocks of companies that have solid fundamentals, with a steady price performance relative to others within the same industry. Other numbers like PEG (P/E growth) and Price Change in the last 4 weeks are also useful numbers to further shortlist the selection if required. Example of the result of the screener is shown below (taken from TDAmeritrade). Once we have a handful of stocks with the desired criteria, we will later be able to do a deeper analysis on each before we decide to buy.
Disclaimer: Techniques or analysis covered on this website are to be used at your own risk. I cannot guarantee the outcome of applying any of the techniques or analysis, will always be in your favor. You must always do your own analysis and make your own decision before you purchase a stock.