Relative Weakness

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The 6 Keys to Building a Winning Portfolio of Stocks – Part 3 of 6

“Relative Weakness”

By Dr. Thomas K Carr

The following article is adapted from Dr. Carr’s forthcoming new book, “Stop Trading, Start Investing: the 6 Keys to Building a Winning Long-Term Portfolio”

In my previous two articles in this series Pt 1 & Pt 2, we looked at how “organic growth” that can be sustained over time and “fair value” as measured by the price to sales ratio are essential to finding great long-term investments in the stock market.  In this article we are moving on to key number three.

The third key to finding the best stocks for investment is to look for stocks that show relative weakness.  Okay, this one may have you scratching your head.  Weakness?  Really?  Let me explain.

relative weaknessRelative strength in a stock is a function of the stock’s price per share.  Relative strength measures the amount of change in share price over a given period of time relative to a benchmark index (typically the S&P 500).  When a stock compared to its benchmark is moving up at a faster rate or down at a slower rate, it is said to have relative strength.  When a stock compared to its benchmark is moving up a slower rate or down at a faster rate, it is said to have relative weakness.

Stocks with relative strength can be great trading stocks.  Unfortunately, they make lousy candidates for long-term investing.  The reasons for this are numerous and complex.  But I don’t have to explain them to you.  I can simply show you.

Let’s take our base screen as we have set it up so far:

  • Price to Sales Ratio < 1.0
  • Earnings Per Share growth this year > 10%
  • Earnings Per Share growth the past 5 years > 0%
  • Sales Revenue growth the past 5 years > 0%
  • Sales Revenue growth quarter over quarter > 10%

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