Looking for penny stock trading indicators that will boost your odds of success? Here are the key ones to watch for
Buying low-quality penny stocks is one of those things that can appear to be successful before it goes badly wrong. Some investors get hooked on it, since low-quality stocks can be highly profitable over short periods. That’s because they are generally more volatile than high-quality stocks.
Here are some penny stock trading indicators that can help improve your odds of finding the best of these risky investments.
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Penny stock trading indicators and the quality of your investments
The Successful Investor approach revolves around choosing high-quality investments and diversifying your holdings. Our three-pronged Successful Investor program takes that general description a little further. In addition to spreading your investment money out across most if not all of the five economic sectors, we advise you to invest mainly in well-established companies, and focus on companies that are outside the broker/media limelight.
While they can from time to time soar quickly, Canadian penny stocks are quick to fall just as fast when a bubble bursts. For instance, two decades ago, buyers of Internet start-ups made far more profit than investors who stuck with well-established companies. The same thing happened when many investors bought low-quality resource stocks in 2007 and 2008, and it has happened in the past in penny stock bubbles. When the bubble bursts, however, prices of low-quality stocks inevitably come crashing down. After all, it’s much easier to launch a stock promotion than it is to create a successful, lasting business.
Penny stock trading indicators: Start by recognizing that penny stocks are often marketing campaigns in disguise
Penny stocks do sometimes pay off, but there are many pitfalls to avoid. You should be aware that many penny stocks are little more than very well-executed marketing campaigns.
Lots of penny stock promoters will do anything in their power to get their penny stock noticed. These extensive marketing campaigns include emails, TV interviews, podcasts and self-produced promotional newsletters.
Not all penny stocks and their promoters are out to cheat investors. But it’s important to approach any penny stock with a very healthy dose of skepticism.
Penny stock trading indicators: Understand that claims of major company involvement may be distorted
Penny stock promoters love to make deals, however small or indirect, with major household-name companies. They’re sure the public is far more likely to buy penny stocks that have agreements with large well-established clients. The penny stock hopes that the link with a major brand will give them instant credibility, even if it far from guarantees any sales or profits.
For example, a mining penny-stock may promote that Newmont Corp., BHP Group or another major mining company has decided to finance the exploration of their mining claims.
However, when promoters manage to make a deal with a major firm, they often go to great lengths to make it seem bigger than it is. Instead of announcing that the big company has invested, say, just $50,000, a stock promoter may issue a press release saying the two companies have entered into a “multi-stage development plan.”
The release may say the major company has agreed to spend “up to $10 million” or some other exalted figure.
Above all, remember that big companies have far more bargaining power than individual investors.
A big company doesn’t go into a situation like this the same way you do. If the big company agrees to spend $50,000 to study the mining property, new technology or pioneering program, it will also insist on a series of options that let it invest ever-larger sums on favourable terms. But the big company will always reserve the right to drop out and cut its losses. In most cases, it will exercise that right.
Do not be fooled by predictions of success with penny stocks
Predictions never work out as well as hard facts.
You see this again and again in investing. For example, stock market predictions are terrible at determining what actual changes will take place in an industry. It’s even harder to predict how long those changes will take to appear. Of course, adverse changes are hardest on companies with bad financing, poor products, weak management or other drawbacks. Meanwhile, successful companies figure out ways to adapt and even profit from change.
Most successful investors agree that it’s a good idea to base investment decisions on facts rather than stock market predictions. You can make mistakes with facts, of course, but predictions have a much higher failure rate.
What indicators do you look at to determine if a penny stock is a good buy?
Unlocking superior returns with small-cap stocks involves navigating the high-risk, high-reward landscape.
Investing in small-cap stocks can offer the potential for superior returns compared to their larger counterparts. However, this opportunity comes with inherent risks. Shares of smaller companies tend to be more volatile, less liquid, and may experience prolonged periods of underperformance. During times of market turbulence or downturns, small-cap stocks are particularly susceptible to heightened volatility.
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Do small companies have an edge?
Small companies trading on U.S. stock exchanges are typically defined as having market caps between $300 million and, say, $2 billion. That range is generally higher than for many other markets, including Canada. For the most part, index providers define small stocks as those in the bottom 5% to 15% of the market value of the investment universe.
While smaller companies do not have the scale and influence of big-cap stocks, they can sometimes react more quicker to changing market conditions. They may also have less internal bureaucracy to deal with before making decisions. In addition, small firms, when they become successful, can become acquisition targets for larger companies.
Incidentally, it’s a mistake to generalize about small-cap stocks. Some are junk. Others are small companies that have a history of sales and earnings, and attractive growth prospects. Others are industry leaders that have small capitalizations only because they serve a small industry.
Small caps can generate higher returns
Over the past 20 years, global and U.S. small-caps delivered compounded annual returns better than the overall world equities index and the U.S. broad market. Despite being periodically dragged down by a large and often poorly performing mining and energy component, Canadian small caps also performed well, generating returns only slightly below the overall Canadian market.
However, over the past ten years, the large U.S. companies performed very well, leaving medium and smaller companies behind. Smaller companies also underperformed both globally and in Canada over the past decade.
Small-cap con: higher risk
While their returns have been higher over 20 years, the volatility, or risk of the returns, for small-caps is higher than the broad market. Canadian small caps are especially volatile.
During the big market meltdown between 2008 and 2009, U.S. and global small-cap stocks dropped more than U.S. large caps, while Canadian small-caps were more volatile as well.
Relative valuations
Given the relatively weaker performance of small companies over the past decade, it is no surprise that the valuations of the small companies trade at significant discounts to the larger companies.
Keep small cap stocks to a smaller part of your holdings
Small-cap stocks have a role to play in balanced portfolios, but investors should keep their exposure to these stocks at less than, say, 10% of their overall portfolios. Investors should also ensure they take quality, value and volatility into account when selecting stocks or small-cap ETFs.
Note as well that most ETFs focused on Canadian small companies suffer from an extraordinarily large exposure to the Resource sector. That can amplify the impact of any movement in commodity cycles.
What are your investing habits with small-cap stocks? Leave a comment below.
Finding out what old stock certificates are actually worth can be disappointing to say the least. Here is some stock market advice to make sure you never hold a worthless stock certificate.
One of our Inner Circle members asked for stock market advice about a stock certificate for Consolidated Denison Mines, a company that no longer trades on any stock exchange. Our research showed that Consolidated Denison had merged in 1960 with Can-Met Explorations and was renamed Denison Mines Corp. That company now trades in Toronto under the symbol DML. We gave him the number of the transfer agent for Denison Mines Limited to see if he could exchange his shares for those of the existing company.
Perhaps you have an old stock certificate like this in your files. The stock certificate may be registered in your name, or in the name of an earlier owner—a friend or relation who left it to you, or a total stranger. Is it worth something?
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One way to find out whether the stock certificate has any value is to try and deposit it in an account with a discount broker. If the issuing company’s corporate charter has been cancelled, the broker will reject the stock certificate and return it to you. If the stock has been taken over by another company, the broker may try to collect the securities or cash that the buying company paid for it.
Stock market advice: You don’t find pearls at the bottom of a junk drawer
Still, a stock certificate like this almost always turns out to be worthless (although they may have some value in the field of scripophily—the study and collection of stock and bond certificates). People take care of items that have some value. For stock certificates, that means keeping them in a safe deposit box, or with a brokerage account. Certificates of defunct stocks are more likely to be deposited at the bottom of a file drawer, “just in case they ever come back to life.” They don’t.
Another reason why most old stock certificates are worthless is simple arithmetic: It’s much easier to launch a company and sell stock to the public than to launch a business and make a success of it. That was truer decades ago than it is today—it’s now much harder and more expensive to launch a new public company. But it’s still easier than starting a profitable new business.
This highlights important stock market advice that can keep your buys from winding up at the bottom of an old file drawer:
It’s essential to invest mainly in well-established stocks with a history of sales and earnings, if not profits. If you break this rule and invest in, say, junior mines or Internet startups, you should only do so if you have a high opinion of the value of the junior’s assets and/or business plan. And you should buy the stock with money you can afford to lose. You could be mistaken about its value. Someone might eventually find your low-quality buys gathering dust at the back of a drawer and wonder if they were ever worth anything.
“Holding for the long term” only pays off with investments in high-quality, well-established companies. If you buy low-quality or speculative stocks, time tends to work against you. The longer you hold them, the likelier you are to lose money.
Follow long-term investment strategies for picks that won’t end up in a dusty attic
Finding old stock certificates that are worthless can make you feel like stock market investing is a mistake. It might indeed be a mistake—but only if you have nothing but long shots in your portfolio—that carries a high probability of you making meagre returns or losing money over long periods, rather than making the extraordinarily high returns you seek.
That’s why you need to be particularly cautious and selective when adding anything to your portfolio that offers the potential of those “extraordinarily” high returns. This advice is especially applicable to new investors, who may seek outsized returns from investments such as IPOs, penny stocks and stock options. These market vehicles are virtually certain to hold you back from long-term investment success.
Put compound interest—earning interest on interest—at the core of your investing strategy and it can have an enormous ballooning effect on the value of an investment over the long-term.
Compound interest can be considered one of the wonders of the investment world. This tip is especially important for young investors to learn. The benefits apply to both stock and fixed-return, interest-paying investments, like bonds. When you earn a return on past returns from stocks (both capital gains and dividends), the value of your investment can multiply. Instead of rising at a steady rate, the number of dollars in your portfolio will grow at an accelerating rate.
To profit from this tip, you need to pay attention to steady drains on your capital, even seemingly small ones—like high brokerage commissions. If you’re losing out on (or missing out on a profit of) even 1% a year, it can have an enormous draining effect on your investments over a decade or two.
Be aware that the markets for fungible goods like oil, interest rates and gold are inherently unpredictable, and make a volatile addition to your investor portfolio
Markets like these are so enormous that there is no practical limit to how much you can trade in them. It follows that if you could predict their prices movements, you could wind up acquiring a measurable proportion of all the money in the world, and nobody ever does that. That’s why it’s a mistake to build your portfolio in such a way that you have to accurately predict the future direction of fungible goods like oil, interest rates or gold. The key to being a Successful Investor is to invest in well-managed companies. The unpredictability of the market facilitates the need for this rule. Well-managed companies can weather financial downturns and market downturns better than other companies.
You can follow our safety-conscious advice in the Canadian Wealth Advisor. That’s where we recommend stocks with built-in value that limits losses during downturns—and produces superior gains over time as markets rebound.
Have you ever found a box of old stock certificates? What did you do with them? Share your experience with us in the comments.
What stocks have you bought that have so little value you could forget about them?
This post was originally published in 2014 and is updated regularly.
The dangers of online trading don’t get much play in the media when addressing how to buy stocks for dividend growth, but online trading does indeed carry hidden dangers that aren’t always evident at first.
The main risk comes from the fact that online trading may seem deceptively easy to those learning how to buy stocks for capital gains, dividend growth or both. The lower costs and higher speeds of online trading can lead otherwise conservative investors to trade too frequently. That can lead you to sell your best picks when they are just getting started. It’s the opposite of what you’ll read in any TSI newsletter.
The apparent ease of online trading may even prompt conservative investors, primarily focused on sustainable dividend growth, to take up short-term trading or day trading. That’s just another danger of trading stocks online—there’s a large random element in short-term stock-price fluctuations that you just can’t get away from. Knowing how to buy stocks online the right way is key to Successful Investing.
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Online trading: Lower costs are attractive, but it’s investment quality that makes money
There’s a random element to investing that can be profitable for short periods. But you can’t reliably profit from it over the long term. In fact, most short-term traders wind up losing money. By the time their beginner’s luck fades, many are trading in dangerously large quantities.
If you think the answer to how to buy stocks successfully is frequent trading, beware. As all TSI newsletters point out, frequent trading can also lead you to buy lower-quality, thinly traded stocks. The danger arises from the fact that the bid and ask spreads of many of these investments can be so wide that the share price will have to go up significantly before you’ll even begin to make money on a sale.
You can make trades quickly in online trading, and that cuts your commission costs. However, for successful investors, this is a bonus, not the object of trading stocks.
How to buy stocks successfully
It is far more important to focus on high-quality, well-established companies and how they fit in your portfolio. The longer you hold these stocks, the greater the chance that your profits will improve, as well.
Here are two other dangers to avoid in online trading. Both can seriously hurt the long-term returns that TSI newsletters focus on:
Practice accounts can breed false confidence: Some investors are nervous about trading stocks online. So, instead of jumping right in, they start off by using the “practice accounts” or “demo accounts” that the online brokerage industry initiated several years ago. Practice accounts are supposed to be identical to real accounts in all but one respect: you buy stocks in them with imaginary or “play” money, rather than the real thing. The brokerage industry says this gives would-be traders a free opportunity to learn how to trade online without risking any money. Using an online broker’s practice account, you can learn online trading essentials, such as how to enter an order to sell or buy stocks; how to double-check your order before submitting it, so you avoid obvious but common mistakes, like buying 10,000 shares when you only meant to buy 1,000; and so on. The big risk with practice accounts is that you’ll try out a risky and ultimately unwinnable investment approach, like day trading or options trading, and hit a lucky streak. This could embolden you to put serious money at risk just when your results are about to regress to the mean. This will deliver losses instead of profits.
Automated stock-picking systems can backfire: Some investors who trade stocks online use automated stock-picking systems to help them make investment decisions. How to buy stocks successfully this way is harder to do. These systems are typically marketed with impressive-looking performance records designed to make investors think they are sure to make guaranteed profits. However, those records are typically derived by “back-testing” the program against past data. In other words, the promoters go back through old trading records and see what would have worked in the past. Automated stock-picking systems essentially do two things: First, they narrow down the data you use when you make investment decisions; second, they apply a fixed rule, or rules, to draw a conclusion or an investment decision from that selection of data. Unfortunately, the market’s key concerns continually change. Today’s good investments can turn into tomorrow’s dead ends. For a time, these systems seem to work, but that’s usually coincidental. If the market is going up and the system tells you to buy volatile investments, it automatically generates profitable trades. But they can just as quickly turn around and begin pumping out unprofitable trades. Often this happens just when they can do the most damage to the investor relying on the system.
Bonus tip: Building a “buy and watch closely” portfolio
As our TSI newsletters point out, there are a variety of ways to build an investment portfolio. Some work better than others. But our buy-and-watch-closely approach has done well for our portfolio management clients over the past few decades. We recommend this approach for our readers as well as they figure out how to buy stocks successfully.
We start by applying our three-part Successful Investor rule for portfolio construction:
Invest mainly in high-quality, well-established companies, with a history of earnings if not dividends;
Diversify across most if not all of the five main economic sectors (Manufacturing & Industry; Resources & Commodities; Consumer; Finance; Utilities);
Downplay or stay out of stocks that are in the broker/media limelight. This limelight raises investor expectations to dangerous levels. When stocks fail to live up to those heightened expectations, share-price slumps can be swift and brutal.
When figuring out how to buy stocks, it’s important to also know when to sell them. In our TSI newsletters, we advise selling particular stocks when we feel the situation has changed and they no longer qualify as high-quality investments. We also sell if we decide that a stock isn’t as high-quality or well-established as it needs to be, to cope with the challenges it faces. Of course, many of our sales are due to a successful takeover of a company’s stock, which generally results in a major profit for our clients.
Note: This post was originally published in 2012 and is regularly updated.
Here’s a look at the pros and cons of robo-advisors
Robo-advisors “promise” an easy route to investing.
You complete an online questionnaire set up to measure each person’s needs. Your response is designed to supply all the robo-advisor needs to know about you as an investor. For instance:
Age
Amount to be invested
Time horizon of your investment
Your risk profile.
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The robo-advisor then supplies a portfolio that fills those needs. The assertion is that each company’s proprietary algorithm claims to take the emotion out of investing and will grant the investor better returns at a lower cost than traditional financial advisors.
It is possible that this might work adequately in a few cases, say, for younger investors just getting started, usually with a relatively small amount to invest and an entry level knowledge of investing.
But for more mature investors who are shepherding their investments to meet their financial goals before and after retirement, serious doubts arise. First, you have little chance of getting a portfolio that is tailored precisely to you, in spite of the questionnaire. When you sit down with human beings to build a portfolio, the results are very different.
The mechanics behind automated investing
Robo-advisors typically aim to build what they see as well-diversified portfolios covering all the main asset categories. Each robo-advisor generally has five to 10 standard portfolios composed of ETFs that vary mainly by the amount of market risk that they carry, covering a spectrum from very conservative to very aggressive.
Each set portfolio usually includes asset categories that include investment-grade bonds, stocks (Canadian, U.S. and global) and sometimes also other asset categories such as real estate investment trusts, emerging markets equities and high-yield bonds.
Each portfolio is subsequently rebalanced automatically as needed whenever actual balances diverge significantly from their target allocations. But you are still getting a pre-packaged product. Essentially, you are getting an asset allocation model, or rather one of a series of asset allocation models.
Asset allocation stems from Modern Portfolio Theory, which grew out of a 1952 paper by a U.S. economist. He developed a mathematical model that emphasized the reduction of volatility by combining investments with different types of returns (i.e., stocks, bonds, cash).
The investment industry seized upon this and subsequent academic research on the subject. It quickly transformed it into a sales pitch for investment products carrying higher fees than so-called “plain vanilla” stocks and bonds.
Financial firms developed asset allocation funds–mutual funds that can shift their portfolio allocations between stocks, bonds and cash in order to capitalize on perceived investment opportunities in any one of those classes.
For example, if the managers are convinced the bond market is depressed and due for an upswing, they may invest heavily in fixed-income investments for a few months to take advantage of the change.
All of this is based on reading the markets, not serving the interests of individual investors. And since we know that the vast majority of fund managers fail to match market indexes, let alone beat them, this is not the best advertisement for future gains.
What’s more, you could just as easily acquire these investments on your own. Robo-advisors usually invest in index funds and ETFs. You could buy these investments and save the robo-advisor fee that is added on to the underlying fees for the fund or ETF.
Still, there are two arguments that could be made by the promoters of robo-advisors
The fees are lower than those you would typically pay for an asset allocation fund. This is true: they compare favourably to the low MERs you would pay for most ETFs. The question, of course, is whether you will get the best possible results for the fee (keeping in mind you could buy the ETFs yourself).
Robo-advisors do not force you to stick to the original profile you entered. You can edit your goals using their financial planning software.
However, you can’t talk to anyone who makes investment decisions for you. You are dealing with an algorithm, and an algorithm will never ask you whether you are anxious, optimistic, or pessimistic, or whether you feel there’s a particular concern you’d like to get off your chest.
It will always make decisions based on the enormous bank of data it is processing, not your personal concerns.
Perhaps someday artificial intelligence will create a robo-advisor that can sympathize with your anxiety about housing prices tapering off in your neighbourhood or an unexpected expense that has just cropped up. Or share your joy when you get a big boost in your returns.
But there’s an even bigger point to be made here. The investments fed to you by a robo-advisor will always be an approximation of your personal needs and goals. It will always be a model that cannot match the hopes, fears and dreams of each individual investor.
For that, you must talk to a human being. A human being who can respond by making specific decisions that will improve your portfolio, month by month and year by year. Someone who understands not only what your goals are, but what those goals actually mean to you.
Have you used a robo-advisor? What was your experience like?
Unlocking the power of strategic diversification across investing sectors: Maximizing returns and minimizing risks in your investment portfolio
A key aspect of our TSI investment philosophy is portfolio diversification across most if not all of the five main investing sectors (Manufacturing & Industry; Resources & Commodities; Consumer; Finance; and Utilities).
That way, investors can avoid overloading their portfolios with stocks in one investing sector that are about to slump simply because of industry conditions or changes in investor fashion. At the same time, that diversification maintains your exposure to stocks and sectors ready to outperform.
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The key point to profiting from the five investing sectors is that investors should spread their investments out across most if not all of them. And at the same time, investors should also follow the other two cornerstones of our TSI investment philosophy as well—sticking mainly with well-established companies, and downplaying or staying out of stocks in the broker/media limelight.
Note that there are a number of difficulties with recommending a model portfolio for all investors. The main one is that each individual has different objectives, risk tolerances, and so on. For example, conservative or income-seeking investors may want to emphasize utilities and banks for their high and generally secure dividends. More aggressive investors might want to increase their portfolio weightings in resources or manufacturing sectors.
In this article we highlight, by means of a statistical analysis, the returns and risks of each of the main TSI investing sectors. We find that the data supports the TSI philosophy—it pays to spread your investments across the five main sectors.
How the investing sectors performed
TSI identifies five main investing sectors; namely, Resources and Commodities, Manufacturing and Industry, Utilities, Finance, and Consumer Goods and Services.
Companies that operate under the Communication Services, Health Care, Consumer Discretionary, Information Technology, or Real Estate umbrellas are slotted into the five sectors corresponding to their main activity. For example, Communication Services are classified as Utilities, Information Technology as Manufacturing, and Health Care as either Consumer Goods or Manufacturing.
For our assessment of the performance and risks of each sector over time, we used ETFs that correspond broadly to the five main TSI investing sectors, as well as the subsectors of Communication Services, Healthcare, Information Technology, Real Estate, and Consumer Discretionary. We used ETFs that invest globally for the analysis.
Information technology outperforms
It’s no surprise that Information Technology performed better than any of the other investing subsectors over the past decade. But Health Care, Industrials, and Consumer Discretionary also delivered attractive annual total returns (all including dividends).
At the other end of the scale were Utilities, Real Estate, and Resources sectors. They still delivered reasonable returns, albeit lower than the top-performing segments.
Resources was also the most volatile sector, followed by Information Technology and Finance. Consumer Staples and Health Care were the most stable performers over the decade.
Year-by-year performance can have wide swings
But the average annual returns do not tell the whole story. There were periods when Resources performed significantly better than any other investing sector and there were periods when Technology was the worst-performing sector.
Apart from the consistently strong performance of the Information technology segment, Resources and Consumer Discretionary also had periods of exceptionally strong performance. On the other hand, Resources, Real Estate and Finance investing sectors had overall poor three-year runs.
Which investing sector will prevail in any year?
Research also indicates the number of times that each investing sector ended up in the top 3 sectors or bottom 3 based on the annual returns since 2009. (For this analysis we used U.S. investing sector performances.)
Resources (including Mining and Energy) was the most volatile investing sector, with five appearances among the top 3 sectors and 14 appearances in the bottom 3. Consumer Discretionary was the outstanding performer with 9 appearances in the top 3 and only one in the bottom 3.
Here are some examples of the wild swings in investing sector performances: the bottom ranking of the Energy investing sector in 2020 (decline of 33%), followed by a top-ranked 55% jump in 2021 and another 66% gain in 2022; and an equally wild swing came in the Information Technology investing segment, with a bottom ranking after a 28% drop in 2022, followed by a top-placed ranking and a 58% gain in 2023.
A key takeaway from the annual investing sector performance rankings is that the top and bottom performers changed, with few exceptions, every year. That means it’s impossible to consistently predict which investing sector will perform best or worst in any given year.
Meanwhile, maximum drawdown measures the top-to-bottom performance of a stock or index.
Resources and Communication Services investing sectors both delivered drawdowns of 40% or more over the past decade, while Consumer Staples and Health Care provided more stability.
Also of note is the 34% drawdown in the Information Technology investing sector (which took place between January and October 2022).
Finding the big winners
Irrespective of which investing sector performs best over any period, the top-performing companies may come from any sector. Investors who spread their investments over the whole universe have a better chance of netting the big gainers.
All of the investing sectors delivered stocks with significant gains. Among the Industrials, United Rentals gained 462% over the past five years; the Health Care investing group’s Eli Lilly added 509%; while Resources had the Australian mining and energy company Fortesque with a 296% gain. These were of course dwarfed by the 1,969% gain for Nvidia.
Hunting for dividend income
Not all sectors deliver regular and growing dividends. That’s important for investors, because if you stick with top-quality high dividend yield stocks, the income you earn can supply a significant percentage of your total return—as much as a third of your gains.
Stable and growing dividends are found in the Consumer Goods and Utilities investing sectors, while the Resources and Finance investing sectors offer still-attractive but less stable dividends.
Which sectors do you invest in? Leave a comment and let us know.
Many investors like to describe different approaches to investment decision-making–what some call their investing practice–by sticking one-word labels on them.
This can make conversations flow more smoothly, but it does little to raise anybody’s investment knowledge. In fact, it can lead to false impressions.
Three of the most common one- or two-word labels in stock investing are “growth” and “value.” You’ll find each of those approaches to investment decision making in a successful investor’s portfolio. But going to extremes in your investing practice with any single one of them hurts your profits,especially in today’s uncertain post-pandemic economy.
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Common approaches to investment decision-making: Growth investing
Of course, as part of your investing practice, you need a growth element in your portfolio. Profits from successful growth investments can offset the drain of disappointing stocks, which are inevitable in any portfolio. But too much focus on growth can lead you to buy stocks that are in the broker/media limelight. Many of these stocks need huge profit gains to justify their current stock prices, let alone move higher. If their growth stalls, it can bring on brutal stock-price downturns.
Among the considerations that go into a successful growth investing strategy, many investors overlook a number of important factors in formulating their investing practice that can considerably lower their risk. Here are some of them:
● Don’t overindulge in aggressive investments.
● Keep stock market trends in perspective.
● Be skeptical of companies that mainly grow through acquisitions.
● The best growth stocks should have the ability to profit from secular trends.
● Keep an eye on a growth stock’s company debt.
● Look for growth stocks that have ownership of strong brand names and an impeccable reputation.
● Balance your cyclical risk.
Common approaches to investment decision making: Value investing
Too much focus on value (or bargain stocks) in your investing practice can lead you to ignore important information. For instance, a lower-than-average P/E ratio (the ratio of a stock’s price to its per-share earnings) can signal danger, rather than a bargain. It can alert you to look for reasons investors might have for being skeptical.
A low p/e may indicate that a company is being run for the maximum current profit, without regard to the long-term needs of the business. This may spur its managers to disregard signs of coming business weakness. They may fail to make needed capital investments. Or they may ignore shrinking demand, rising competition due to advancing technology, or risks of a cyclical downturn.
Academic studies suggest that on average, value investing produces better results than growth investing. But these studies mostly look back on what would have happened in a particular historical period, if you followed a particular set of rules. Most distinguish between growth and value investing by looking at average p/e’s (per-share price-to-per-share earnings ratios). They assume high p/e’s are a marker for growth stocks and low p/e’s, a market of value stocks. As any serious value or growth investor can tell you, it’s more complicated than that.
If you balance and diversify your portfolio as we recommend as part of your investing practice, it should include both growth and value selections. In both areas, you should avoid extremes and the hunt for so-called bargain stocks.
Common approaches to investment decision-making: Momentum investing
You might say momentum investing is the most modern of the three approaches outlined here, since its fans often try to computerize their investment decisions. They aim to profit with software that can spot patterns in the vast amounts of stock-market information available today in order to find so-called bargain stocks.
The momentum approach can pay off for short periods. But its fatal weakness is that momentum investing is inherently a short-term strategy, so it can lead you into short-term trading. The shorter the term, the more exposed you are to random factors in the stock market.
Successful investors are more likely to look on momentum-based buy and sell signals as a way to see if they are in tune with, or at odds with, the market’s short-term trend rather than focusing on so-called bargain stocks. Either way, these signals are a reminder to look more deeply and widely for profit-making opportunities.
All in all, you’ll find signs of growth and value strategies in a successful investor’s portfolio. To make the two factors work profitably together, those successful investors also add a third: an emphasis on investment quality.
Approaches to investment decision-making: Keep long-term conservative investing goals in mind
The goal of an investor, particularly if you follow the Successful Investor approach (or investing practice) is to make an attractive return on your investments over a period of years or decades. Failure means making bad investments that leave you with meagre profits or with losses as you continue to hunt for so-called bargain stocks.
Unsuccessful investors can still make some profits. They just don’t make enough to offset the inevitable losses and leave themselves with an attractive return. If you focus on the idea that you never go broke taking a profit, you may be tempted to sell your best investments whenever it seems the investment outlook is clouding over.
On occasion, you may succeed in selling just prior to a major downturn and buying back at much lower prices. More often, prices will soon hit bottom and move up to new highs. If you buy back, you’ll pay higher prices. If you had followed this investment belief with Canadian bank stocks, for example, you could have missed out on some big gains over the years.
In hindsight, market downturns are easy to spot. Spotting them ahead of time is much harder, and impossible to do consistently. After all, if you could consistently spot market downturns ahead of time, you could acquire a large proportion of all the money in the world, and nobody ever does that.
The problem is that you’ll foresee a lot of market downturns that never occur. All too often, the market-downturn clouds disperse soon after skittish investors have sold. Good reasons to sell do crop up from time to time, of course, even if you follow a long-term conservative investing approach. But “you’ll never go broke taking a profit” is not one of them.
There are plenty of approaches to investment decision-making. Is there an approach you’ve tried that isn’t worth doing again? Do you have one that works best for you?
This article was originally published in 2017 and is regularly updated.
Renewable energy ETFs have attracted popular approval, and not just with socially conscious investors. Still, are these ETFs good investments?
A number of renewable energy ETFs have emerged over the past few years as concerns over the environment have grown. However, some of the stocks in those renewable energy ETFs may have only limited investment appeal.
Indeed, some are only profitable—if at all—because they receive government subsidies. But those subsidies are in danger of being cut in many places given budget deficits and long-term debt levels.
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To cut your risk, we recommend that you largely focus on individual renewable energy stocks instead of a renewable energy ETF. Above all, look for stocks that already have a sound base of other operations—such as a wind-farm operator that also operates natural-gas fired power plants. This diversification helps offset the risks of expanding into renewable-power production.
Themed ETFs like renewable energy may have a lot of emotional appeal. But when you indulge in theme investing, you may allow a theme or concept to take a central place in your investing decisions. Usually the theme or concept includes some prediction about the future that has some truth in it, and will make noticeable changes in society. You may assume that if you can just get on-board that theme or find an investment with its future tied to it, you are bound to make money.
In other words, you are buying what you might call a “Big Idea” without making certain that a particular investment has a workable business concept, or the management strength and integrity that it needs to overcome competition and profit from it.
Themes like renewable energy ETFs can cause you to overlook crucial details. A key problem is that if the theme is your overriding investment consideration, it’s all too easy to get lazy about examining the details. You may feel that all the hard work has been done for you. You may come around to the view that the theme is so powerful that you can safely disregard p/e ratios and other measures of value and risk. You may wind up basing investment decisions on offhand projections or self-serving advice from promoters. That can distract you from looking at the stocks, and their fundamentals, that an ETF holds.
Keeping those facts in mind can help you spot stocks with extra potential. But if you let the theme make the decision for you, you are sure to overlook some risks.
In general, we like ETFs. Their MERs (Management Expense Ratios) are usually much lower than those of mutual funds. That’s because most ETFs take a much simpler approach to investing. Instead of actively managing clients’ investments, ETF providers invest so as to mirror the holdings and performance of a particular stock-market index.
ETFs are less expensive to hold. Some ETFs give you a low-cost way to invest in a narrow market segment. But at the same time, that’s typically cheaper than investing in a mutual fund with a similar focus. Fees can be as low as 0.10% a year for many ETFs vs. mutual funds that can charge you 2% to 3% or higher on their fund. That means ETFs can save you a lot of money and boost your returns if you are investing over time.
ETFs trade on stock exchanges, just like stocks. That’s different from mutual funds, which you can only buy at the end of the day at a price that reflects the fund’s value at the close of trading.
Low turnover. Shares are only added or removed when the underlying index changes. As a result of this low turnover, you won’t incur the regular capital gains taxes generated by the yearly distributions most conventional mutual funds pay out to unitholders.
ETFs do have their risks. For example, if you’re considering investing in a renewable energy ETF, consider our advice below:
ETFs can be volatile, depending on the stocks they hold, even with the diversification they offer.
Know how broad the fund is, so you can determine its volatility. The broader the ETF, the likely less volatile it will be. A sector-based ETF like one that tracks resource stocks may be very volatile.
Know the economic stability of countries when investing in international ETFs. It’s also good to mention that foreign leaders may not be your ally when it comes to passing legislation that can affect your investments
Know the liquidity of ETFs you invest in, look at the volume of shares that trade hands on a daily basis.
Determine if the ETFs you buy will include capital gains distributions.
Consider buying ETFs in a lump sum rather than periodic small amounts to cut down on brokerage fees.
Never forget that fads change. When a fad fades, as they all do, the fund’s liquidity many die out with it. The manager may have to dump the fund’s holdings when demand is at its weakest, forcing prices lower than they would otherwise go. Likewise, the same investors who are excited about investing in renewable energy companies are also apt to flee when stock prices start falling.
Don’t invest in ETFs that show wide disparities between the stocks they hold and the investments that the sales literature describes. Despite the increased attention on ETFs in 2024, many ETF managers continue to describe their investing style in vague terms.
Are you invested in a renewable energy ETF? Has its price growth met your expectations? Share your experience with us in the comments.
This article was originally published in 2016 and is regularly updated.
The best dividend stocks have hidden assets, provide both income and capital gains potential, and have these three financial factors in common
We generally feel that most Successful Investors should hold a total of 10 to 20 mainly well-established, dividend-paying stocks, chosen mainly from our average or higher ratings. They should also spread their holdings out across most if not all of the five main economic sectors.
The best dividend stocks offer investors a measure of security. Dividends, after all, are much more stable than earnings projections. More important, dividends are impossible to fake—either the company has the cash to pay them or it doesn’t.
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Canadian Growth Stocks: CGI Group, CAE Inc., Fortis Inc. Stock and more.
The best dividend stocks have hidden assets
Successful investors recognize that hidden assets are a great way to cut risk, for conservative and aggressive investors alike. One great example is research and development.
When a company spends money on research and development, it can create a hidden asset with the potential to expand the company’s long-term profit.
Companies have to treat research and development spending as a day-to-day expense, much like maintenance or tax payments. As a result, this spending comes right out of the current year’s earnings. This tends to lower the company’s current earnings, since the spending takes time to have an impact (and, in fact, it may not pay off). This pay-now, profit later (if at all) process tends to inflate a company’s price-to-earnings ratio, or P/E. That’s because the spending cuts the company’s earnings—the “E,” or denominator, of the P/E ratio. As the E shrinks, the P/E ratio rises.
While high research spending can make a business look less profitable than it really is, if it’s invested wisely, it is more like a long-term investment than an expense. When research pays off, it can yield dramatic long-term returns, including sustainable dividends.
The best dividend stocks offer sustainable dividends
Investors generally look to aggressive stocks for capital gains and to more conservative stocks for income. However, there are some dividend stocks offering yields that are as high—or even higher—than yields on more established companies.
However, it’s important to watch out for unusually high dividend yields. Investors should avoid judging a company based solely on its dividend yield (the percentage you get when you divide a company’s current yearly payment by its share price). That’s because a high yield can sometimes be a danger sign rather than a bargain.
For example, a dividend stock’s yield could be high simply due to the fact that share price has dropped sharply (because you use a company’s share price to calculate yield) in anticipation of a dividend cut. That’s why we recommend that Successful Investors look beyond dividend yield when making investment decisions, and look for companies that also have established a sound business and have a history of building revenue and cash flow. Those are good indications that their dividends will be sustainable.
The best dividend stocks will include these financial factors
Dividend history is very important to dividend stocks. Ideally, you should look for dividend stocks that have been paying dividends for 5 or more years.
Also, as a general rule, companies that make money regularly are safer than chronic or even occasional money losers. As mentioned earlier, companies can fake earnings, but dividends are cash outlays. If you only buy dividend-paying stocks, you’ll avoid most frauds.
What is the dividend stock’s debt load like? Would it have a hard time recovering from an economic downturn? The more manageable the debt, the better. When bad times hit, debt-heavy companies often go broke first—especially ones that also keep trying to allocate part of their cash flow to paying dividends
Bonus Tip: What to watch out for in aggressive dividend stocks
In general, there are three big mistakes that investors can make when investing in aggressive dividend stocks:
Investing too much of your portfolio in aggressive stocks
Picking a stock based on a high dividend yield without confirming its dividend sustainability
Not looking for stocks with hidden assets
What would you do if you invested in a high-dividend-paying stock only to find out that the dividend was a danger sign rather than a bargain?
What mistakes have you made with investments in aggressive growth stocks?
To succeed in the long term, find the best blue chip stocks to buy and hold on to them.
The best blue chip stocks to buy and hold in your portfolio all have one thing in common: They give you reason to believe they might be worth holding on to indefinitely.
Most of these stocks have an established business and a history of sales gains, plus some earnings, if not dividends. To put it more simply: these stocks have a clear business plan that seems to be working.
True Blue Chips pay off
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Canadian Blue Chip Stocks: Bank of Nova Scotia Stock, CP Rail Stock, CAE Inc. Stock and more.
The best blue chip stocks to buy are the kind of investments we put in our clients’ portfolios
Although we think the best blue chip stocks are worth holding on to indefinitely, we keep an open mind. After all, they are subject to the usual risks. Competitors can overtake them. Expected contracts can fall through. They can lose key employees, run into union or regulatory problems, and so on.
Of course, nobody can predict the future. We’ll change our view and sell some as time passes. We’ll give up on some way too early, and hang on to others way too long. But if you focus on stocks like these, you improve your odds. The best of the bunch will more than overcome your losses and leave you with highly satisfactory long-term returns.
The best blue chip stocks to buy
As mentioned, blue chip stocks we recommend have a history of earnings and, in most cases, a history of sustainable dividends. They have established their value over the long term. Like all stocks, they can fluctuate widely and many suffer in a long-term market downturn, but they offer a higher probability of long-term gains.
We feel most investors should hold a substantial portion of their investment portfolios in securities from blue chip companies. These stocks should offer good “value”—that is, they should trade at reasonable multiples of earnings, cash flow, book value and so on. Ideally, they should also have above-average growth prospects, compared to alternative investments.
Common characteristics of the best blue chip stocks to buy
These stocks are of high-quality companies.
These stocks are outside the broker/media limelight.
These stocks often have hidden assets.
The best blue chip stocks to buy have three financial factors in common
5 to 10 years of profits. Companies that make money regularly are safer than chronic or even occasional money losers.
5 to 10 years of dividends. Companies can fake earnings, but dividends are cash outlays.If you only buy dividend-paying stocks, you’ll avoid most frauds.
Manageable debt. When bad times hit, debt-heavy companies often go broke first.
How the best blue chip stocks to buy can benefit your portfolio
We advise investors to look for blue chip companies that are likely to pay off if business and the stock market are good, but that won’t hurt them too much during those inevitable periods when business or the markets are bad.
If you follow our three-pronged approach—diversify across most if not all of the five main economic sectors, stick mainly to well-established companies and those outside the media limelight—then you can be almost certain of long-term gains in excess of what you’d get with any other investment approach.
In a deep or long-lasting market setback, your blue chip stocks will tend to go down, along with everybody else’s. But we think they will go down less and recover sooner.
Practice patience, not reactionary behaviour
It’s all too easy to sell a blue chip investment that looks like it’s headed for a downturn, only to buy another that is headed for a collapse. For that matter, if you make a habit of selling whenever you feel the market’s risk has gone up, you will wind up selling your best stocks way too early.
You can always find a rationale for selling. Market commentators are continually thinking up new ones, based on recent market strength or weakness, historical market patterns, political or economic predictions, changes in tax policies—the list is endless. This is a good thing. After all, you can only buy a stock if somebody who owns it wants to sell.
Before you act on a selling rationale, take a broader look. Consider facts about the blue chip investment, and about your investment goals and temperament. If the selling rationale makes sense and you find additional good reasons to sell, then selling may be the right thing to do. But it’s always a bad idea to sell a good stock for trivial or transitory reasons.
Have you ever sold a blue chip stock only to regret it later? When did you realize you made the wrong decision?
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Canadian Blue Chip Stocks:
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