A Time-Tested Way to Consistently Make Outsized Gains
If you want to start an argument, find adherents of technical analysis and adherents of fundamental analysis and ask them which investing approach is better.
The technical analysts will tell you a close read of a company’s financial statements won’t help you know whether a stock represents a timely investment. The fundamental analysts will counter that looking at charts only tells you where a stock has been, not where it is going.
With all due respect, they are both wrong.
The real secret to successful investing is the marriage of both approaches.
In fact, I’ve singled out a pair of factors — one from each camp — that can be used in tandem to deliver robust gains. It’s an approach that has led me to bag triple-digit gains, often in a matter of months, from stocks across all industries.
I want to walk you through this two-pronged approach so you can profit from my strategy in your daily trading activities.
It’s All Relative
The term relative strength is simple and transparent. It’s a measure of how a stock or sector is trading relative to the broader market. When the market is flat or rising, any stock that is increasing in value at a rapid pace scores high marks in terms of its relative strength.
Investors may question the wisdom of buying a stock after it has already become popular with the crowd. “The cow is out of the barn,” they might say. Yet, technical analysts know that an object in motion tends to stay in motion. In other words, a rising stocks often keeps on rising.
After decades of trading stocks and managing portfolios, I’ve concluded that relative strength is the most dependable way to pinpoint winning trades.
And I’m not alone. Many academic studies have drawn a similar conclusion.
James P. O’Shaughnessy, author of “What Works on Wall Street,” studied 46 years of market history and concluded that relative strength “significantly outperforms” the stock market. His study found that using a relative strength-based system would have beaten the market by an average of 3.65% per year over the past 83 years.
Few strategies have such a large trading edge.
I specifically look for stocks with a relative strength rating above 70, which means they have outperformed 70% of the companies in my database during the past six months. Having this parameter ensures I’m only buying the market’s best-performing stocks.
The Perfect Fundamental Mate
Still, it is foolhardy to simply buy any stock in a vacuum, ignoring other external factors. For example, it is possible that a stock has a high relative ranking while the company’s underlying financial health is poor.
What makes for healthy financials? Rapidly growing sales? A robust dividend yield? Low levels of debt? Sure, those metrics help, but I think you should stay focused on the single-most important determinant of fiscal health: cash flow.
Since cash is the lifeblood of any business (companies need positive cash flow to finance their dividend and invest in new opportunities), it stands to reason a company that is growing cash is in a better economic position to continue growing its business than one that isn’t.
Said another way, dividends, share buybacks and investments in future growth — all the things shareholders desire — start with positive cash flow.
But I don’t simply look at cash flow. I look at cash flow relative strength.
Companies with high cash flow relative strength aren’t merely generating steady cash flow, they are seeing strong growth in this all-important metric. Specifically, I’m looking for companies growing cash flow faster than 70% of all other companies over the past six months.
When you combine a company’s relative strength ranking with its cash flow relative strength, you get what we call its “Alpha Score.”
Since each of these figures can range from 0 to 100, the highest possible Alpha Score is 200. For example, if a company has grown cash flow faster than 75% of all companies, and its stock has outperformed 80% of all other stocks, it would have an Alpha Score of 155.
Here’s the rub: For a stock to be considered, both metrics must be above 70. It’s hard enough to score high on one of those criteria, let alone both. And though you can use various screening tools that help you identify stocks with a six-month relative strength above 70, you won’t find a similar easy way to find stocks with a strong cash flow relative strength.
That’s what my research team and I are here for. We dig into company after company to find only those with growing cash flow. You can’t simply take a quick glance at a number. You need to read the financial filings to be sure that cash flow isn’t being doctored by external factors, such as a rapid drawdown of accounts receivable or a reduction in inventory.
The Alpha Score isn’t simply an academic notion. It’s a proven, time-tested way to deliver outsized profits like:
— 55% in two months
— 114% in seven months
— 134% in 10 months
— 242% in 12 months
And I just released my Top 10 Trades for 2016 based on the Alpha Score. These stocks are flashing some of the highest scores I’ve ever seen — as high as 189. If history is any guide, some of these stocks could end up being our biggest winners yet.
To learn more about the Alpha Score and how to gain access to my Top 10 Trades for 2016, follow this link.