November 2, 2007
Robert,
My selection of stocks for my personal portfolio and to recommend to my investment club from the library of the IAS using the following criteria:
1. In order to appreciate in price the P/E must expand and the EPS must grow. Therefore I look for the following criteria:
2. A Relative Value around 100 or perhaps somewhat less. This provides the opportunity for price appreciation from the P/E expansion. My definition of average P/E is some what different than Ellis Traub's. I look at the P/E of the last five years. If the high and/or the low P/E have been trending downward it means the likelihood of a past average P/E repeating is slim to none. I then pick an average P/E to calculate RV that gives me a PEG ratio of 100 or perhaps a bit higher. This bit of judgment provides room for the P/E ratio to expand and drive the price up if all goes well. As companies grow bigger their P/E ratios usually tend to reflect the slower rate of growth of EPS.
I use the PERT Report to follow stocks and look for ones I would be interested in. The RV calculated by the Tool KIt software fails to always take into account judgments made as to which P/E ratios have been used in the SSG for estimating low and high prices. This is not always true as it depends on what judgments have been used to estimate the future.
3. I make sure that any stock I select has a PERT-A that shows the pre tax profit margin is not declining. This means growing sales are going to be translated into growing EPS. I look at the PERT-A graph for trends of growth of sales, pre tax profits and EPS. I look to see that the growth rate of these metrics meets the estimate of the SSG that was used to recommend the stock.
4.. If all these tests are OK it follows that the Upside/Downside ratio will be 3 to 1 or greater. I carefully check the estimated future low price to see that it is reasonable in view of the above tests.
5. I read business publications such as The Wall Street Journal, Business Week, Fortune magazine and Barron's. If there is a hint of bad news I avoid buying the stock or I may sell it if I already own it. For example, when it was revealed that Associated Computer Services (ACS) was back dating option prices, I sold quickly. I did not wish to own a stock managed by less than honest people. I look for recent news in Yahoo and keep a file of every stock I am interested in from the IAS or that I am interested in for other reasons.
6. By looking for news on a daily basis I try to keep abreast of events that may influence the price of a stock. Note, this is a departure from a practice of buy a good company's stock and then forget it.
Robert, have I given you enough to chew on? If you need further explanation, then come back to me.
Ralph
----- Original Message -----
Sent: Friday, November 02, 2007 11:24 AM
Subject: [The Classroom]: IAS Uber-Portfolio? (9eb85a40-77ed-4e12-9943-55d838e977ea)
From the The Classroom forum at StockCentral.com, Robert Brooker writes:
I am thinking of creating an Investor Advisory Service (IAS)-based portfolio. A couple of years ago, I met Mark Hulbert, who writes the Hulbert Financial Digest, which (I believe) is the leading independent tracker of investing newsletters. Mark knew IAS well and, for the purpose of comparing IAS returns with other newsletters, runs an "IAS portfolio" by selecting all IAS stocks whose current price is below the Buy price. If the stock crosses into the "overvalued" zone, his portfolio "sells" the stock.
(Incidentally, Mark commented to me that unlike IAS, most newsletters track a smaller number of stocks and tell you exactly which stocks to buy or keep in a portfolio. I presume that IAS's philosophy is more to provide expert insight into a larger groups of stocks, but at the same time to encourage its readers to augment IAS findings with their own analysis and judgment.)
OK, so here's my issue: the November IAS issue lists 49 stocks that are currently trading below the "Buy" price, out of 79 stocks that IAS follows. I don't want a portfolio with 49 stocks . . . 10 - 20 will do fine for my portfolio. Moreover, even though the entire "basket" of IAS stocks tends to outperform the S&P 500 and Wilshire indices, I postulate that with a smaller portfolio I have a good chance to do even better than the IAS basket that Hulbert tracks . . . curious to know if others agree with this concept.
I am wondering if anyone has any insight or suggestions on how to create an "uber-IAS" portfolio of 10-20 stocks. Here are some thoughts that come to mind:
1. Have IAS stocks with higher upside-downside ratios outperformed the basket? Could this be a reliable method of idenfifying the IAS stocks most likely to perform?
2. Can I reduce risk by further screening out of lower quality stocks, or high PE stocks?
Eager to hear any suggestions! I suppose I could do this analysis by going through old IAS issues, but perhaps someone has already done this analysis empircally and can share with the StockCentral community, or has a compelling theoretical argument for or against these approaches.
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Posted by: Robert Brooker
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