Quality company/stock: How do you determine that?

[It's Snake Pliskin]

Just curious as to how people determine what they think a quality stock is for the purposes of trading and investing. A quality company can be sound but not necessarily a good one to buy for investment, nor may it move much for trading purposes. So how are they avoided and better investment and trading quality determined?

From a TA point of view I can see easily what I would determine quality: liquidity, reasonable price movement and a sound trends. For you it may be different. It may be much more than that. It may be less. It could be nothing others think. It could be more than others think. Let's discuss.

 

[Tysonboss1]

Re: Quality company / stock how do you determine that?

Just curious as to how people determine what they think a quality stock is for the purposes of trading and investing. A quality company can be sound but not necessarily a good one to buy for investment, nor may it move much for trading purposes. So how are they avoided and better investment and trading quality determined?

From a TA point of view I can see easily what I would determine quality: liquidity, reasonable price movement and a sound trends. For you it may be different. It may be much more than that. It may be less. It could be nothing others think. It could be more than others think. Let's discuss.

The question is not an easy one, years of business and investing experiance is needed to become fully qualified in identifying Good business and more importantly a good price for that business.

http://www.youtube.com/watch?v=WlC40B9qZ20

Here is a brief insight in a 1 minute video.

 

[So_Cynical]

I've recently stumbled across a few small caps (non resource) that have sparked my interest, in all cases it was what these small caps have, that got my attention...what they own and what there trying to do....so for me in the first instance im interested in what a stock/company does.

 

[robusta]

Sounds a bit vague but the first thing I look for is a competitive advantage, after that I look at ROE, Debt/Equity and cashflow.

 

[Noddy]

Here's somewhere to start -

Profitable with a ROE > 10%
Manageable debt levels - Preferably Less than 50% Debt/Equity
Pays regular dividends
Increasing EPS

Heres a few examples -
CCL COH CSL EQN JBH MND NVT REA TPM BHP CBA

 

[tinhat]

Since the death of my father, I've taken on managing the family SMSF, and I've only just started to proactive manage the fund's share portfolio. This was my same question - "how do I know, without being an expert, the fundamental soundness of a company?

I've subscribed to Lincoln's stock doctor which I've found to be invaluable in providing fundamental analysis and the software allows me to scan and filter based on both fundamentals and technical analysis. I've also telephoned their office a few times to speak with the relevant analyst about specific stocks before I've bought. Sometimes I've just asked "Is there anything I should be aware of with this company, any upcoming events?". It is great to subscribe to a fundamental analysis service which does not provide buy/sell/hold recommendations and is independent of a brokerage. They now have a daily live chat forum on their website with their senior analyst every morning at 9am and another chat forum where subscribers can not only chat but drop questions for the analysts who generally respond the same day.

Lincoln have a strict methodology for identifying "star stocks" which they don't deviate from. I like the consistency and objectivity of this approach. It may not be perfect and their methodology may not exactly suit all stocks but right now there are 41 "star stocks" and that gives me enough of a short list to then filter through based on technical analysis, sector analysis, etc. One of the star stock criteria is that a stock must have achieved positive earnings per share growth over the past eighteen months, so there can be some time lag for a newly listed stock or a recovering company as to when it will gain or regain star stock status. For example, MCE, which was on Roger Montgomery's short list on his blog last year, won't be eligible to be considered for star stock status for some time yet (it only listed last year) but it's been a beaut stock to own even though I only bought it in November.

One of the best and easiest filters built into stock doctor is a filter that lists those "star stocks" which have a market price at a discount to the Lincoln valuation. I've set up my own filter that then identifies which of these are in a major up-trend (share price rising over the last twelve, six and three months).

I've been using the Intrinsic Value method outlined in Roger Montgomery's "Value.able" www.rogermontgomery.com Roger's method is based on the work of Benjamin Graham and the publications of Berkshire Hathaway, Buffett and Munger. Today I ordered Graham's book "The Intelligent Investor", first published 1949, which Warren Buffett describes it as "by far the best book on investing ever written".

While I feel I'm getting a better handle on the fundamental analysis and on filtering and selecting stocks for my short list, I've concluded that, based on my experience over the past couple of months, I've not been getting my timings right for both entry and exit. I've recently quickly read through Stan Weinstein's "Secrets For Profiting in Bull and Bear Markets" and I will study it again in more detail because it has been invaluable.

PS: I purchased Martin Roth's "Top Stocks 2011" in October last year, but I don't really refer to it any more because Stock Doctor is a superior information source. But that book gives you a short list of 100 or so companies that the author considers to be fundamentally sound.

 

[It's Snake Pliskin]

Thanks for the replies, just to clarify more for the thread just to discuss - a quality company and a quality stock could be two different things.

A quality company may be the quality of the business as a business if it were not connected to market activity (even though it is)
A quality stock may be the quality of the stock as a tradable or investible entity. Price is a major consideration as that is where the money is made for traders and investors (including dividends)

Sound businesses may always be sound due to their busniess model etc, but have languishing prices.
Value is not a consideration yet. It is a separate thing as is growth.

 

[robusta]

Thanks for the replies, just to clarify more for the thread just to discuss - a quality company and a quality stock could be two different things.

No they can not. A stock is just a part ownership of a company. The quality of both will be the same.

A quality company may be the quality of the business as a business if it were not connected to market activity (even though it is)
A quality stock may be the quality of the stock as a tradable or investible entity. Price is a major consideration as that is where the money is made for traders and investors (including dividends)

Sound businesses may always be sound due to their busniess model etc, but have languishing prices.
Value is not a consideration yet. It is a separate thing as is growth.

Value and growth are major inputs into identifying quality. If you are looking to trade on price action this is different and please dont confuse opportunities to trade with identifying quality companies/stocks.

 

[FxTrader]

A quality company may be the quality of the business as a business if it were not connected to market activity (even though it is) A quality stock may be the quality of the stock as a tradable or investible entity. Price is a major consideration as that is where the money is made for traders and investors (including dividends)

A strange distinction you are trying to make here, unsuccessfully in my view. When you buy a company's stock you are buying a stake in their business. If your investment horizon is a long term one then fundamental analysis is used to determine the "quality" of the business and its current and future intrinsic value. Price is a consideration and used to establish over or undervaluation by the market, hence has influence on your buying decision. Buy and hold business based fundamental investing.

If you're buying stock as trading equity only then the basis of such investing is price speculation using technical analysis or other speculation around upcoming news or announcements etc. Whether a company's stock or its dervatives (options, CFDs etc) are "tradeable", short or long, is highly subjective in nature and unless you have insider information, based on a trading strategy that presumably has delivered positive expectancy in the past. Hence, short term technical trading based on price speculation.

IMO, there is no such thing as a "quality" tradeable stock. It's either tradeable or not depending on your trading strategy.

Sound businesses may always be sound due to their busniess model etc, but have languishing prices. Value is not a consideration yet. It is a separate thing as is growth.

Actually value is a key consideration in fundamental investing, languishing prices much less so. Identifying undervalued quality businesses is one of the key objectives of fundamental analysis. "Growth" is a term that can deceive investors about the actual financial health of and prospects for a business. As for forecasting price "growth", that's just market speculation.

 

[So_Cynical]

A quality company may be the quality of the business as a business if it were not connected to market activity (even though it is)
A quality stock may be the quality of the stock as a tradable or investible entity. Price is a major consideration as that is where the money is made for traders and investors (including dividends)

I think its all about the charts people use to make stock selections, people using 5 minute or 1 hour charts are looking at SP action only and in general could care less about the fundamentals...i look at 3 charts when making stock selections.

• 1 year (to get an idea of recent price action)
• 3 years (to see what happened to the SP pre and post GFC)
• All Data (to see the whole picture)

Because i have an open ended investment time frame and im looking to build a dividend stream....i care about the fundamentals.

 

[joea]

Just curious as to how people determine what they think a quality stock is for the purposes of trading and investing. A quality company can be sound but not necessarily a good one to buy for investment, nor may it move much for trading purposes. So how are they avoided and better investment and trading quality determined?

From a TA point of view I can see easily what I would determine quality: liquidity, reasonable price movement and a sound trends. For you it may be different. It may be much more than that. It may be less. It could be nothing others think. It could be more than others think. Let's discuss.

Hi
You maybe interested in visiting www.bwts.com.au
If you go to the site, click "about colin" and you will see his investment return.
Following 2008 he wrote a book etc.
In "buy books" you will see his latest, and you can read a review on google.
He selects his stocks initially with technical analysis, then chooses them fundamentally.
It maybe up your ally, then it may not.
Cheers

 

[It's Snake Pliskin]

Robusta,

No they can not. A stock is just a part ownership of a company. The quality of both will be the same.

But for practical investing and trading we are not interested in being pleased with ownership as opposed to cash flow income through dividends, storing wealth in a quality stock that holds its price, and, or capital gains.

Value and growth are major inputs into identifying quality. If you are looking to trade on price action this is different and please dont confuse opportunities to trade with identifying quality companies/stocks

Valuation may be part of the trade or investment decision not the quality of the stock. I'm not saying you are wrong just looking at it from a quality perspective only. If a stock has a low valuation and then it rises to being a high valuation does the quality of the stock just stop even though it is a sound business? The valuation changes, future growth may change and a cash cow may be a sound business for wealth storage. cheers...

 

[It's Snake Pliskin]

Hi FX,

A strange distinction you are trying to make here, unsuccessfully in my view. When you buy a company's stock you are buying a stake in their business. If your investment horizon is a long term one then fundamental analysis is used to determine the "quality" of the business and its current and future intrinsic value. Price is a consideration and used to establish over or undervaluation by the market, hence has influence on your buying decision. Buy and hold business based fundamental investing.

This is where I am being different because I am not talking of buy and hold nor strictly fundamentals. Value is not a consideration yet.

Not saying this is the way it should be but just trying to see what peole believe quality is.

If you're buying stock as trading equity only then the basis of such investing is price speculation using technical analysis or other speculation around upcoming news or announcements etc. Whether a company's stock or its dervatives (options, CFDs etc) are "tradeable", short or long, is highly subjective in nature and unless you have insider information, based on a trading strategy that presumably has delivered positive expectancy in the past. Hence, short term technical trading based on price speculation.

Speculation could be of any instrument, market, etc with or without regard to quality, valuation etc. and strictly not done technically.
Still only interested in quality as it would be perceived or known by investors, traders of the company as a stock.

IMO, there is no such thing as a "quality" tradeable stock. It's either tradeable or not depending on your trading strategy.
Actually value is a key consideration in fundamental investing, languishing prices much less so. Identifying undervalued quality businesses is one of the key objectives of fundamental analysis. "Growth" is a term that can deceive investors about the actual financial health of and prospects for a business. As for forecasting price "growth", that's just market speculation.

So business growth is of no concern if a languishing price is fairly valued? For a non-buy and hold strategy the languishing price is a consideration.

Cheers...

 

[FxTrader]

Hi FX,Speculation could be of any instrument, market, etc with or without regard to quality, valuation etc. and strictly not done technically. Still only interested in quality as it would be perceived or known by investors, traders of the company as a stock.

Hello Snake, part of the issue here I think is semantics and additional meaning we attach to terms. So that we are talking about the same things, here are my preferred definitions...

Speculation - engagement in transactions involving risk but offering the chance of large gains, esp. trading in commodities, stocks, etc., in the hope of profit from changes in the market price.
Technical Analysis - a security analysis discipline for forecasting the direction of prices through the study of past market data, primarily price and volume.
Value - estimated or assigned worth; valuation
Quality - character with respect to grade of excellence or superiority

So yes, speculation does not necessarily pay attention to value or quality (in whatever comparative sense) but is usually undertaken after some analysis, commonly technical.

The "quality" of stock as being more tradeable than another is again a highly subjective attribute that depends on one's trading strategy, analysis and perspective. If a stock is deemed more tradeable (as a quality) than another then in what sense, liquidity, price movement, trending, higher probability of success using a particular strategy, etc? You could easily have 10 people give you 10 different views on why they think one stock is more tradeable (hence higher quality for traders) than another so I'm uncertain what you hope achieve here.

So business growth is of no concern if a languishing price is fairly valued? For a non-buy and hold strategy the languishing price is a consideration.

I never implied any such thing with regard to growth. For fundamental investors the question is how growth (in profits) was achieved. Was "growth" achieved via borrowing, equity raising and/or acquistion or natively from existing operations and profit reinvestment. What really matters to the fundamental investor are things like return on equity, debt ratios, dividend policy etc.

"Languishing price" is a consideration for traders (as opposed to investors) who want to speculate on the continuation of short term price movement since by definition price is not moving or trending.

Fairly valued by who, the market? The "value" investor knows that a company with rising intrinsic value will see a rising price in time and looks for undervalued stocks. The price the market assigns to any company's stock only occasionally coincides with valuation (whatever the valuation model).

 

[Ronaldio]

Hello Hello, This is my first post in this forum/thread so heres what I do.

Look at the PE Ratio to determine whether or not the company is under or over priced and tells me whether or not it is a good buy.

Dividend Yield - Generally look for a yield above 4% fully franked to gain a bit of income off the stock

EPS - The forecast which shows the growth potential of the company. Generally has previous year, current, 1yr, 2 yr etc.

Also using charts to find entry signals through trend lines and a few other indicators.

I hope this helps. For me it stays relatively simple.

Have fun, Ronnie

 

[robusta]

Hello Hello, This is my first post in this forum/thread so heres what I do.

Look at the PE Ratio to determine whether or not the company is under or over priced and tells me whether or not it is a good buy.

Dividend Yield - Generally look for a yield above 4% fully franked to gain a bit of income off the stock

EPS - The forecast which shows the growth potential of the company. Generally has previous year, current, 1yr, 2 yr etc.

Also using charts to find entry signals through trend lines and a few other indicators.

I hope this helps. For me it stays relatively simple.

Have fun, Ronnie

Hey Ronnie

I cant agree with using P/E to determine if a stock is a good buy or not but I love the rest. Keep it simple and have fun it does not have to be so complicated.

The main thing I would add is to keep a eye on ROE, the higher the better.

 

[Tysonboss1]

Value is not a consideration yet. It is a separate thing as is growth.

A growth company is a company that has the ability to reinvest all or a portion of it's earnings back into the expansion of it's businesses and there for grow earnings which over time should see a rising share price.

The Value approach becomes even more important when heading into "growth" companies, because often companies labelled as growth stocks already trade at prices much higher than their current asset value. So before you buy you have to find out the details such as

what is the current equity?
what is the current return on this equity?
how much of the of earnings are reinvested?
will these reinvested earnings earn the same return as preivious reinvested equity?
what is the premium above current conservative valuation?
Is the company likly to grow earning fast enough to warrent paying a premium?

When you invest in a growth business you need to have a firm understanding of what you are buying and how much more are you paying for the prospect of future earnings growth.

 

[Tysonboss1]

Speculation - engagement in transactions involving risk but offering the chance of large gains, esp. trading in commodities, stocks, etc., in the hope of profit from changes in the market price.
Technical Analysis - a security analysis discipline for forecasting the direction of prices through the study of past market data, primarily price and volume.
Value - estimated or assigned worth; valuation
Quality - character with respect to grade of excellence or superiority

Another Term that needs a definition is Investment.

Investment- An investment operation is one which upon thorough analysis promises safety of principle and and adequate return.

The key phrase is safety of principle.

Which the key to safety of principle comes through buying sound businesses, with a margin of safty (not over paying), along with some diversification.

 

[GumbyLearner]

Another Term that needs a definition is Investment.

Investment- An investment operation is one which upon thorough analysis promises safety of principle and and adequate return.

The key phrase is safety of principle.

Which the key to safety of principle comes through buying sound businesses, with a margin of safty (not over paying), along with some diversification.

Another investment criteria term that should be considered is if you think the business knows their product and knowing who the people are that will want it. Certainly for consumer discretionary stocks this is vital. Good monopolies/duopolies evolve due to this focus alone. Competitors who don't focus on this usually wither and die.

Usually companies who are active in searching out feedback from clients about how they could improve their product do well. Marketing is one thing, R&D is a totally different ball game.

 

[It's Snake Pliskin]

Hello FX,

Hello Snake, part of the issue here I think is semantics and additional meaning we attach to terms. So that we are talking about the same things, here are my preferred definitions...

Value - estimated or assigned worth; valuation
Quality - character with respect to grade of excellence or superiority

My initial discussion thought was to simply define quality and how it is determined. So now quality and value are defined as different things we can allow that to be in the discussion.

The "quality" of stock as being more tradeable than another is again a highly subjective attribute that depends on one's trading strategy, analysis and perspective. If a stock is deemed more tradeable (as a quality) than another then in what sense, liquidity, price movement, trending, higher probability of success using a particular strategy, etc? You could easily have 10 people give you 10 different views on why they think one stock is more tradeable (hence higher quality for traders) than another so I'm uncertain what you hope achieve here.

That's the content I was hoping people provided rather than just repeating acronyms for fundamental criteria in reference to valuation etc. The subjectivity of each is interesting and helps ascertain what quality is in the minds and terms of reference of various trading and investing strategies. I'm happy if we don't have consensus and see what quality is.

For fundamental investors the question is how growth (in profits) was achieved. Was "growth" achieved via borrowing, equity raising and/or acquistion or natively from existing operations and profit reinvestment. What really matters to the fundamental investor are things like return on equity, debt ratios, dividend policy etc.

Thanks, for the input and good points.

"Languishing price" is a consideration for traders (as opposed to investors) who want to speculate on the continuation of short term price movement since by definition price is not moving or trending.

Opportunity cost is a consideration so I feel languishing price is a problem for investing in the short to medium term - which will vary from person to person. Falling price is obviously an issue of opportunity cost.

Fairly valued by who, the market? The "value" investor knows that a company with rising intrinsic value will see a rising price in time and looks for undervalued stocks. The price the market assigns to any company's stock only occasionally coincides with valuation (whatever the valuation model).

Thanks again for the input.