CANSLIM method - William O'Neil

This is a quick review of the CANSLIM method of stock selection or stock picking as described in the book by William O'Neil:
How to Make Money in Stocks: A Winning System in Good Times and Bad, Fourth Edition


The interesting thing I found about this method is that it is neither pure fundamental nor technical analysis but a combination with elements of both. Here is a quick brief on who William is.

William J. O'Neil (born March 25, 1933) is an American entrepreneur, stockbroker and writer, who founded the business newspaper Investor's Business Daily and the stock brokerage firm William O'Neil + Co. Inc. He is the author of the books How to Make Money in Stocks and 24 Essential Lessons for Investment Success and is the creator of the CAN SLIM investment strategy. He holds one of the highest performing track records in the stock market --- Wikipedia

Now on to the CAN-SLIM method. This article is not a book review, rather a summary of the CAN-SLIM method for quick reference for users of this blog.

C - Current quarter growth 30%- compare to last quarter, for four qtrs, sales growth. This indicates strong short term growth. Finding such a criteria for stock whose price has not shot up may be good as this may indicate a company which is overlooked and ready for appreciation.

A - Annual earnings growth 25% - last three years. Roe > 17%. Check earnings stability, i.e. this ensures that good earnings is not just a fluke, but is due to good business and can be sustained.

N - New things in company, products, management - fundamental. New highs off properly formed bases, such as stock price shooting up recently from a long inactive period.

S - Supply an demand. Low debt to equity. These are typical fundamental criteria. The first represent the core of any business for without a favourable supply and demand, the business would not survive. The second is fundamental on how the business is run in terms of debt level. Many large corporate failures can be traced to too high debt.

L - Laggards and leaders. Do not buy when price drop big, with big volume , even though look cheap. This will trap most amateur and even professionals like fund managers and so called fundamental investors. Get out of laggards if drop 8% or more.

I - Institution investors - buy stocks with a few institutional sponsor that have good performance, or more coming in. Avoid those with too big proportion held by institutions as this will lessen liquidity.

M - Market direction. Major top when small price up, large volume, big range. Market bottom begin with rally attempt which closes higher after day's decline. From fourth day, look for follow through with higher price and strong volume. After confirmed , buy quality stocks with strong sales and earnings . Also look for divergence in major indices and ratio of call to put options volumes.

A few more notes which I would try to remember for myself are:
- look for Cup handle pattern. This is when the stock price has not moved up or down for a long time and just recently starting to spike up.
- Buy when stock is going up, on increasing volume, not when going down.
- Buy companies with low debt to equity.

The 9 Golden Rules according to Lincoln

This list is a set of 9 so called rules to decide if a company is worth investing in.

Rule 1. Financial Health
Lincoln suggest to invest in companies with Financial Health ratings of Strong or Satisfactory. Unfortunately, this rating is only available from the Lincoln Stock Doctor. However, we can do our own assessment in determining financial health. Some of the indicators that may be helpful are: debt levels eg. debt to equity < 1, current ratio > 1.5 (for retail companies), ability to service loans -> Interest cover (receipts to interest payments) > 3, cashflow history, and so on.

Rule 2. Management Assessment
Lincoln measures management using ROA and ROE, thought I don't believe this is a good measure. For biotech companies for example, ozstock uses the qualifications of its management team and directors. Back to Lincoln; they suggest ROA > 8% and improving is good. In addition EPS > 8% for last 18 months is good. For bank and insurance companies, Lincoln suggests ROE > 14% and improving, as well as EPS growth of > 12% (>8% over past 18 months)


Rule 3. Share Price Value
Lincoln suggests a PE ratio less than industry average may be underpriced and so a buying opportunity. When the PE is greater than industry average, they suggest using PE/EPS growth ratio where PEG < 1 is good.

Rule 4. Liquidity Volume
Liquidity level is to ensure that you can sell your stock when you need to. Lincoln suggest the average daily volume traded should be 5 times of your exposure level.

Rule 5. Share Price Trend / Sentiment
Buy when the trend is positive. Never buy when a stock price is "screaming down hill".


Rule 6. Market Capitalisation / Size
Large companies, ie those with large market capitalisation, are seen to be less volatile and have greater liquidity, i.e. higher traded volume. Lincoln considers stocks only if they have market capitalisation > $100m

Rule 7. Company Activities
Have a basic understanding of the company's activities, potential opportunities and threats that can affect future earnings of the company or industry.

Rule 8. News and Announcements
Lincoln suggest to look for positive announcements as this generally improve share price of company. Ozstock believes that the market tend to overreact quickly with good news and may overprice a stock. On the other hand, in the current bear market, it looked like even genuine good news may still result in share price dive - be careful in bear market. Lincoln also suggest that investors beware of negative news or announcements. Again, ozstock has found that once negative news hits the press, the shares would have dived already.

Rule 9. Follow all the above rules
Apply the above rules in a consistent manner.