Bull markets are born on pessimism, grow on scepticism, mature on optimism and die on euphoria.

Friday, January 16, 2015

Winning System: CAN SLIM part I

I just finish read the book, How to Make Money in Stocks (4th Edition) by Willim J.O'Neil.

He created a winning system in good or bad times, namely CAN SLIM system. The system combines fundamental and technical part to screen companies & buy it at the right time. Each letter in the CAN SLIM systems stands for one of the seven basic fundamentals of selecting outstanding stocks. 

The system helps to identify companies with strong fundamentals - large sales and earnings increases resulting from unique new products or services and then buy their stocks when they emerge from properly formed price consolidation periods. 

C = Current Quarterly Earnings per Share

Quarterly earnings per share must be up at least 18-20% or more - the higher, the better. They should also be accelerating at some point in recent quarters. Quarterly sales should also be accelerating or up 25%. 

Compare EPS to the same quarter a year earlier, not to the prior quarter to avoid any distortion resulting from seasonality. 

Omit a company's one time extraordinary gains. 

A = Annual Earnings Increases

There must be significant (>25%) growth in each of the last three years and a return of equity (ROE) of >17%. If return on equity is too low, pre-tax profit margin must be strong

For turnaround stocks, look for annual growth rate of at least 5%-10%, two straight quarters of sharp earnings recovery. 

N = New Products, New Management, New Highs

Look for new products or services, new management, or significant new changes in industry conditions that able to drive the company move forward. 

S = Supply and Demand 

Shares outstanding plus big volume demand. Any size capitalization is acceptable in today's new economy as long as a company fits all other CAN SLIM rules. Look for big volume increases when a stock begins to move out of its basing area. 

Select companies with low outstanding number of shares. Easier to push up price since the supply is low. 

Choose entrepreneurial management rather than caretaker. 

L = Leader or Laggard

Buy market leaders and avoid laggards. Choose among the best two/three stocks in the respective field or industry.

Avoid sympathy stock. It refers to a laggard stock that traded cheaper to leader stock will not enjoy the valuation given to the leader stock. 

Always, without exception, limit your losses to 8% of your cost, given that you bought your stocks precisely off sound base. (Consolidation area)

I = Institutional Sponsorship

Buy stocks with increasing sponsorship and at least one or two mutual fund owners with top-notch recent performance records. 

It takes large source of demand (Institutional investors) to push up the price. 

Avoid over-owned by institutions as it's probably too late to climb upwards. 

M = Market Direction. 
I will have another post for this as this section is quite long

The system is different from the conventional fundamental approach. 

The philosophy of the system is to buy the stocks when they're on the way up in price, not on the way down. And when you buy more, you do it only after the stock has risen from your purchase price, not after it has fallen below it. 

Buy stocks when they're nearer to their highs for the year, not when they've sunk so low that they look cheap. 

Pay less attention to a company's book value, dividends and PE ratio. Focus more on important proven factors such as profit growth, price and volume action and whether the company is the number one profit leader in its field with a superior product. 

Lastly, you also have to acquaint yourself with charts to buy the stocks at the right time after it came out from the consolidation phase. 

Above post is abstracted from the book "How to make money in stocks". I find it quite interesting on the system but I think the figure need to be adjusted a bit in order to suit KLSE counters as I don't think the annual EPS growth must be at least 25% for 3 consecutive years. Furthermore, the company must be the leader of the industry. All this while, I always think of the growth of the market leaders are quite low or stagnant. Need to further study a bit. 

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