Markets
The PC Way to Pick Winners
We put three stock screeners through their paces -- to identify steady-growth prospects, bargain stocks and momentum plays. In each case, the screens turned up some promising prospects.
By David Landis, Contributing Editor
From Kiplinger's Personal Finance magazine, April 8, 2005
- Comments
- Email This Article
- Print This Article
- Order a Reprint
Advertisement
There's an old joke that goes: How do you create a statue of a horse? Simple. Get a block of granite and cut away everything that doesn't look like a horse. That may or may not work for sculpting, but it's an excellent way to approach stock picking.
To have any chance of identifying the winners among more than 11,000 publicly traded companies, you must first dispense with the overwhelming majority of losers. The best way to do that is with stock-screening software. Screeners can help you cherry-pick a promising group of stocks that meet your exact specifications. You simply provide a set of criteria (choosing from already prepared lists or typing in your own requirements), and the program spits out a list of compatible stocks.
Screening saves you time and imposes a healthy discipline on your stock-picking strategy. Just what, in your opinion, makes a stock worth buying? You'll need an answer to that question to put a stock screener to good use. Once you've thought it through, a variety of Web sites allow you to test your stock-picking theories. Let's try several screeners -- all free, easy to use and with different strengths and filtering capabilities.
Blue-chip growers
The first stop is Kiplinger's Stock Finder (kiplinger.com/tools/stockfinder), where a straightforward screener lets you easily search for the staple of any core portfolio: steady growth stocks. You can, among other things, screen for a variety of value criteria, such as price to earnings, book value or cash flow, or for consecutive years of profit or dividend growth.
What makes a stock a steady grower? Consistently rising earnings, for starters. So the first criterion for our screen is companies that have increased earnings every year for a long time (let's say seven years). And because we hope this behavior continues, we limit the search to companies with projected earnings growth of at least 15% over the next three to five years. As a confidence measure, we require the stock to have performed better than the overall market over the past six months. That means choosing a six-month relative-strength rating above 100 (which is the average). To eliminate stocks with too much debt, we require that long-term debt be less than 50% of the company's total capital (equity plus debt). To avoid overpaying, we set the PEG ratio (the price-earnings ratio divided by forecasted earnings growth) at 1.5 or less. Finally, we eliminate stocks with market values of less than $1 billion.
When we ran this screen recently, it turned up 26 stocks, including such well-known retailers as Abercrombie & Fitch and Lowe's. (Results will vary over time, naturally, and if a screen spits out too many or too few prospects, just adjust your criteria. For example, you could expand the list by searching for companies with five years of consecutive earnings growth.)
Not every stock a screen turns up will be a buy. From this point forward, it's up to you to use your own research and discretion to winnow the field still further. After some additional digging, two stocks on our list looked especially promising: Bed Bath & Beyond (symbol BBBY) and CACI International (CAI).
Bed Bath & Beyond, one of the nation's leading home-furnishings retailers, benefits enormously from the housing boom. Rising real estate values, combined with cash-out mortgage refinancings, put extra money in homeowners' pockets. And what have they spent it on? Furnishing their new homes, of course. BB&B sales grew 26% annually over the past five years, and profits grew even faster, at a 31% clip.
As the housing boom levels off and the Union, N.J., company gets bigger (it has 660 stores now, compared with 34 in 1992), growth will inevitably slow. But the home-goods supermarket concept is far from exhausted. Company co-founder Leonard Feinstein estimates that the U.S. can accommodate more than 1,100 stores. And the company owns two other retailers with a lot of room for growth: Christmas Tree Shops, 26 giftware and household-items stores acquired in 2003; and Harmon Stores, a 36-store chain that sells discount health and beauty supplies, acquired in 2002.
Meanwhile, BB&B is debt-free and holds $1.3 billion in cash. Analyst Joan Storms of brokerage firm Wedbush Morgan Securities forecasts 17% earnings growth in the year ending February 2006, to $1.89 a share. At $39, shares trade at 21 times that estimate. Storms has a one-year price target on the stock of $52.
CACI International is a virtual pure play on the growth of the federal government. The Arlington, Va.-based firm provides technology, communications, engineering and management services primarily to the federal government, which accounts for 95% of its revenues.
Talk about a growth market: CACI derives almost three-fourths of its revenues from the Department of Defense, and it benefits from rising spending for homeland security and intelligence needs. Never mind the talk about paring back defense spending in the face of budget deficits. Major weapons systems are most likely to get the ax, not the nuts-and-bolts services CACI provides, such as designing and managing the computerized budgeting system for the U.S. Army Material Command and providing secure data networks to government agencies.
CACI shares, recently $54, dropped 18% in the first six weeks of 2005, following an earnings report that disappointed some analysts. But the stock trades for just
18 times the average of analysts' 2005 earnings estimates of $2.92 per share. That's cheap for a company that expects about 30% earnings growth this year and targets 20% annual growth beyond that. Standard & Poor's analyst Stephanie Crane thinks CACI's stock could hit $70 in a year.
