By J.E. Carpenter
Investors tend to look at things like takeover rumors when trying to pick a winning stock. More often than not, however, those rumors are just that. Here are some more reliable guides to a company’s bright future:
1. More than one insider is buying.
Insiders aren’t always right, and they’re often way too early. But if more than one insider is giving your stock a vote of confidence by making a large purchase, it improves the chances your stock will outperform in the long run. Look at the size of the insider purchases, though. Small purchases may not be meaningful and may even be done in an attempt to influence share price. Also, consider the position of the insider in the company. The more important the individual is, the more promising the purchase.
2. The company is buying back its shares.
With fewer shares available supply goes down, which raises demand for your stock. It also indicates the company’s confidence in its future.
3. Earnings are increasing.
More than anything else, earnings drive share price. Steadily increasing earnings are therefore a very positive sign. Be sure that you believe in the sustainability of those earnings, though. When a company is growing too fast, it can’t possibly continue the performance indefinitely. When growth slows, share prices may fall fast and hard.
4. Inventories are declining.
When a company ships its product as fast as it stocks it, it’s a very good sign that demand is increasing, which bodes well for future earnings.
5. The company is paying off debt.
Often, new companies take on more debt than they should in an effort to expand their marketplace presence and buy needed equipment. When they begin to pay it down, it’s a good sign that their gamble is paying off.
6. The company has a moat.
When a company has a surefire way to keep competitors away, it’s likely to be a long-term winner. Some companies have a moat by virtue of a brand name that is so well-known that no
competitor can easily make inroads. (Example: Coca-Cola) Others create moats with patents, such as patented drug products and software programs (be aware, though, that the drug stock may fall when the patent expires and the generics move in.) A moat may also exist because a company owns land that contains oil, gold, or other scarce resources. Another company can’t just start manufacturing gold to compete with them.
7. Free cash flow is increasing.
The company is easily able to meet its day-to-day obligations without having to increase debt or rob Peter to pay Paul.
8. The company sells a habit-forming product, or one that consumers just keep on buying.
A company can keep raising its prices on alcohol and consumers will still buy. The same is true of tissues, toilet paper and other quickly-consumed or disposable products.
9) Few analysts follow the stock.
Once analysts become bullish on a stock, it often gets bid up to unsustainable levels. When analysts haven’t discovered it yet, there’s usually a long upside ahead, providing the stock does well enough for analysts to take notice when the positive earnings come through.
10. The percentage of insider ownership is high.
When insiders own a large part of the company, they have a vested interest in making sure it performs well.
11. The company is in a promising sector.
When energy costs are expected to increase, energy stocks have a leg up. The same is true for every sector. Keep in mind, though, that even winning sectors have some losing stocks.
Conclusion: By looking for a few key factors, you can often spot a good stock ahead of the crowd. All of these factors increase your chances of picking a winner.