When it comes to investing in the stock markets, investors utilize a variety of techniques and strategies to evaluate stocks. While some use technical analysis, others use fundamental analysis for their trading and investment decisions.
Sometimes, investors also use strategies that implement a mix of both technical and fundamental analysis. One such method is the CANSLIM strategy. This method allows you to pick up the right stocks based on a set criteria to ensure that your investment decision generates profits. Sounds interesting, doesn’t it? Read on to find out more about the CANSLIM method of screening stocks.
What is CANSLIM?
The CANSLIM method is a stock-screening technique that was developed by William O’Neil, who was the founder of an American stock research company called the Investor’s Business Daily (IBD). First introduced in the 1950s, CANSLIM was widely regarded by the American Association of Individual Investors as the top performing strategy for over a decade starting from 1998 to 2009. Also, this strategy is one of the most studied investment methodologies in the entire stock market world.
This unique system utilizes both technical and fundamental analysis to determine the right growth stocks to invest in. In fact, the CANSLIM strategy uses technical indicators to identify the entry and exit points of a stock, whereas fundamental indicators are used to evaluate the company to ensure that its financial performance warrants an investment.
The CANSLIM strategy
The word CANSLIM is actually an acronym for a seven-step process that an investor is required to look for when trying to pick stocks with good future growth potential. Each letter of the word stands for a criteria or a key factor that needs to be analyzed. Let’s take a brief look into each criteria.
The letter ‘C’ stands for ‘current quarterly earnings per share’ of a company. When looking out for companies to invest in, investors should ideally compare the current quarterly earnings per share figure of a company with that of the same quarter in the previous financial year. The higher the percentage of growth, the better the company is fundamentally. As a general rule of thumb, most investors tend to look for companies with a growth rate of 20% or more.
The letter ‘A’ stands for ‘annual earnings growth’. The revenue that’s generated by a company should preferably grow year over year. Most investors utilizing the CANSLIM method look out for companies with an annual earnings growth rate of 20 to 25% or more over the last 3 to 5 years.
The letter ‘N’ stands for ‘new product, service, management, or events’. A company should preferably be on a continuous path towards innovation and development. Without the release of any new products, services, or events, a company’s stock price is likely to languish and not appreciate in price. On the flip side, if a company is constantly developing new products or is on the news for positive reasons, the stock price is likely to witness a huge boost.
The letter ‘S’ stands for ‘supply’. A company’s stock should ideally be scarce in supply, backed by strong demand. This would in turn create a scenario where the stock enters the excessive demand territory, which would rapidly push the prices up. Companies that buy back a portion of their own shares from the market shorten the supply of its own stock, thereby creating additional demand and subsequently a rise in the price.
The letter ‘L’ stands for ‘leading.’ According to CANSLIM, an investor should always look towards investing in a leading company in a leading industry. The strategy suggests the use of a technical indicator like the Relative Strength Index (RSI) to identify leading companies.
The letter ‘I’ stands for ‘institutional sponsorship’. An investor should always look into the institutional shareholding pattern of a company before deciding to invest in it. A company that’s favourable for investing should have a higher level of institutional ownership. Any recent increase in the level of institutional shareholding is generally viewed as a positive factor.
The letter ‘M’ stands for ‘market direction’. A large number of the companies listed in the stock market tend to follow the current direction or the trend of the market. And so, an investor should ideally thoroughly analyze the market movements using the broad market indices to confirm a strong uptrend before deciding to invest in a company.
The CANSLIM method is a highly useful investment strategy that can help investors accurately identify stocks with high growth potentials. In fact, according to a research study, the CANSLIM strategy managed to outperform the benchmark averages both in the short-term and the long-term as well. Here’s something that you should note. This strategy is tuned towards bull markets and uptrending markets only. And as such, it is not advisable to implement it in a bearish or a falling market scenario.