Good morning! Today I welcome back Troy from The Financial Economist for a new installment of this investing series.
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I’ve never talked much about buying individual stocks and individual stock picking, because I prefer to buy and trade index ETF’s (e.g. S&P500 ETF, NASDAQ ETF). Today I’m going talk about buying and selling individual stocks by introducing you to William O’Neill’s CANSLIM stock picking style.
I was recently rereading O’Neill’s “How to Make Money in Stocks“, and his entire book pretty much revolves around the CANSLIM investment strategy. The strategy is actually really, really simple. There’s no need to go into detail what CANSLIM is because the entire strategy can just be dumbed down into one phrase: buy the stocks that are surging the most right now. In essence, just buy the leaders
In the stock market, there are always leaders and laggards. Let’s assume that the S&P500 is experiencing a big bull market and over the past month has posted a 10% gain. However, that “10%” is just an average of all the stocks in the S&P500. The stocks that exceed the average (10%+ gains) are called leaders and the stocks whose returns are below average (>10%) are laggards.
What the stock picker does is buy the stocks that are posting the biggest gains right now (leaders). He sells his stocks that are no longer posting the biggest gains and buys the new stocks that are posting the biggest gains. That way, he or she can always make the most money with the individual stocks that are performing the best.
The Details of Stocking Picking
Here’s how stock picking using this strategy works.
Once a week, you will need to look at a list of hundreds of stocks (that’s why a lot of investors use computers to do this part). You’ll need to simply scan the whole list and narrow things down to the 5 stocks that are performing the best. Then you buy those stocks.
You hold those stocks until they cease to be leaders. Eventually, all leaders will turn into laggards. Once the stock that you bought is no longer a leader, you dump it and look for the stocks that are the new market leaders. Then simply repeat the entire process.
Essentially, what you’re doing is buying a stock that’s rising the fastest and holding onto it until it starts to slow down. Then you dump it, grab onto the next stock that’s rising the fastest, and hold onto it until it too starts to slow down. Rinse and repeat.
When is this Strategy Most Effective?
There are many investors and traders who have used this strategy, and the most successful of them is Dan Zanger. This guy is practically a legend. He holds the record for making the most money (percentage wise) in 1 year. From 1998 to 1999, he turned $10,000 in $18 million! (If I could do that, I’d be on a beach somewhere in Florida living the easy life.)
Ok, I know that this post is starting to sound like a get-rich quick scheme, but it’s not. You have to understand when this stock picking strategy works best. This stock picking strategy does not work that well most of the time.
This works best in a bubble, which is exactly the environment that Dan Zanger was in from 1998 to 1999 (remember the dot com bubble?). Why does it work so fabulously in this type of environment? Because in a bubble, there will always be certain stocks that are soaring! One company goes public, its stock price triples in 2 days, then it starts to fall. Another stock shoots up 190% in 2 weeks, and then it ceases to rise with the overall NASDAQ. This is the environment where stock picking is most effective. There are a ton of stocks who are posting fabulous gains, and all you have to do is buy them. When Internet Company X ceases to be the market leader, all Dan Zanger had to do was buy into the next hottest IPO (Netscape, anyone?). He grabs the market leaders, and when those leaders cease to lead, he tosses them aside and grabs the new leaders. That’s how Dan Zanger pyramided $10k into $18 million.
Of course, this isn’t as effective today because we don’t have a stock market bubble right now. That’s also why Dan Zanger is no longer trading – he’s now making the most of his money by telling other people how to make money in the stock market. If his stock picking strategy still worked that well in today’s environment, he wouldn’t be teaching seminars for $30k a pop. He’d long have been a bajillionaire. Just imagine, $10k into $18 million in one year. In two years, he’d be richer than Warren Buffett! He’d be God!
What is your strategy when it comes to stock picking?