There are a number of different investing strategies for how to select successful stocks. The ability to jump onto a rocket ship before it takes off is the dream of any investor, so finding a device for identifying those stocks before the begin their climb is like nailing down the Northwest Passage was to early explorers: an elusive goal that promises to be lucrative if reached. However, one stock-picking strategy, CAN SLIM, has some believing that they've found just such a strategy.
The system was developed by William O'Neil, the founder of Investor's Business Daily, after examining the past performance of the fastest growing stocks on the market. He came up with the acronym CAN SLIM to summarize the seven criteria that he used to identify stocks on the verge of major gains in his book How to Make Money in Stocks.
C: Current Earnings
O'Neil identified stocks that showed significant year-over-year EPS growth in the current quarter. The CAN SLIM systems suggests growth of no less than 18-20 percent, but gains in excess of 50-70 percent were typical of the best performers.
A: Annual Earnings
CAN SLIM also seeks out companies with strong annual EPS growth over the last five years, typically in the 25-50 percent range.
While the first two criteria are fairly simple valuations, N gets a little trickier. O'Neil sought out companies that had something new about the company, most likely a product of some kind (say like Apple's (AAPL) iPod), but it could also mean new management. This should help to spur new growth.
S: Supply and Demand
CAN SLIM seeks out companies that have a relatively low supply of shares and relatively high demand for them. This involves looking for companies with high trading volumes as well as those that have reduced supply through buyback programs or other methods. This is particularly true for blue chip stocks where institutional investors are limited by restrictions of what they can buy, creating an opportunity for smaller investors to take advantage.
O'Neil stressed investing in industry leaders. After looking at relative performance numbers comparing stocks to an index or sector, one should invest in companies that are leaders in that area. One should examine the Relative Price Strength, essential a percentile of where the stock lands compared to other similar companies. O'Neil believes one should go after stocks in the 80-90th percentile.
I: Institutional Sponsorship
O'Neil advises pursuing companies with institutional ownership by at least 3-10 major financial institutions. A lack of institutional ownership means that thousands of money managers have passed the stock over. However, O'Neil also warns against institutional over-ownership, a sign that it's too late to get in on a stock.
M: Market Direction
The final component of CAN SLIM involves reading the current market, bear or bull, and adjusting your strategy accordingly. O'Neil warns that even a strong stock can be influenced by the overarching market trends.
Another System with Mixed Results
O'Neil developed the CAN SLIM system through examining past stocks that took off, so it's a backward looking system. This is important to note, as past performance, while important, is not a guarantee of future success. The results of CAN SLIM, which O'Neil has revised in subsequent editions of his book, are mixed over the last decade. They would have to be, as no stock picking system can ever be perfect. However, CAN SLIM does over a fairly comprehensive approach to stock-picking that combines both fundamental and technical analysis and offers another strong strategy one should consider when investing.