So Many Choices! – Screening Methods

Nov 12, 2006 by

When it comes to stocks there are nearly infinite options. While we usually only think of companies listed on the AMEX, NYSE, and NASDAQ, there in an another, far riskier universe of companies listed by Pink Sheets and listed in other countries.

Now that I am done prefacing, I will describe some well-known strategies for screening stocks. One strategy, called The Dogs of the Dow involves buying shares of companies with the highest dividend yield. Two ETFs that roughly follow the Dogs of the Dow are DVY and PEY. To read more about them, see http://moneycentral.msn.com/content/specials/P115303.asp?special=0406etfs

Another strategy commonly employed is to buy stocks or groups of stocks with high or low Price to Earnings (P/E) ratios. If a company has a P/E ratio of 1, it is trading at earnings, quite possibly an excellent value. Google (GOOG), a stock that the market is very excited about, has a P/E ratio of 60.13. General Mills (GIS), a maker of packaged consumer foods, has a P/E ratio of 18.43. Even ETFs, like IYY, have P/E ratios. If a stock’s P/E ratio is below 1, it is a bad sign, as it is an indication that the stock is worth less than its earnings. A high P/E ratio is an indication that the market expects higher earnings in the future. However, different industries have different ranges of normal P/E ratios, so it is unwise to compare the P/E ratio of a search engine with that of a cereal producer.

How does one pick stocks based on these criteria? One of my readers, James Dunn, recommended that I visit his site, StockInvestingX. The site contains lists of stocks sorted by various criteria that one might be interested in using to screen investments. His list is far more comprehensive than most, and contains listings of Pink Sheets. I must urge readers to use caution when investing in any specific company (rather than investing in an ETF). Further caution is warranted when investing in small companies, foreign companies, and Pink Sheets. I’m by no means a xenophobe when it comes to investing. However, other countries have different, often less stringent, accounting standards than the United States. By buying foreign equities in bundles, you can at least be assured that if something fishy is going on in one of the underlying equities, your portfolio will not lose much value.

Definitions:
Pink Sheets: Pink Sheets are stocks listed by Pink Sheets LLC. They tend to be small, closely held companies with large bid-ask spreads. Many companies listed on Pink Sheets do not file audited financial statements with the SEC. If you receive spam mentioning a company with a low share price and a ticker that ends in .P or .PK, you have received a spam message about a stock listed on Pink Sheets.

Price-to-Earnings (P/E) Ratio: The P/E ratio is determined by taking the current share price of the stock, and then dividing it by the amount of earnings per share.

1 Comment

  1. An Investor

    In his 1991 book Beating the Dow, Michael O’Higgins popularized a simple strategy for outperforming the Dow Jones industrial average over the long haul. The system, known as “Dogs of the Dow,” calls for annually investing equal dollar amounts in the ten Dow stocks with the highest yields. The portfolio is rebalanced with a new pack of “dogs” using the last day’s close of the year.

    The Dogs of the Dow strategy has outperformed (total return) the broader index in three of the last five years.

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