Before writing this post, I would like to stress the point that a good company does not necessarily mean that its stock is good, but a good stock is definitely the sign of a good company (PS: I don’t think NFLX is a good stock).
Now what are the characteristics of good stocks that make these stocks attractive to traders? There are many, namely:
Low P/E Ratio: A low P/E ratio not only mean that the company is actually making money, but it also means that the stock is relatively undervalued. Now the question is, what is the ideal P/E ratio at which a stock should trade? The answer depends on the industry. In the Banking industry, a P/E of 15 is the norm, in the Technology industry, a P/E of 20 is good, in the Oil drilling industry, a P/E of around 15 is standard, in the Pharmaceuticals industry, a P/E of 30 is still considered to be attractive. (Quick definition: P/E is the Price/Earnings ratio, a P/E of 10 means that at the current profits, it will take a company 10 years to buy back all its stocks and become private).
Low Short Ratio: A low short ratio means that investors are not betting against the stock, which means that they believe that there is little chance for the stock to go down. I will create a list (hopefully tomorrow) including the stocks with the lowest and the highest short ratios.
High Volume: Of course, high volume can be a good thing and a bad thing, but if the stock is generally bullish (bullish technical indicators) and you have a high volume, then this means that the stock is definitely worth a look. High volume usually means that institutional investors are trading this stock.
High company liquidity: Look at Apple, they’re sitting on (literally) hundreds of tons of cash. Before discussing this point further, I would like to explain how they are literally sitting on hundreds of tons of cash. Since any US$ bill weighs about 1 gram, then a million dollars, in $100 bills, will weigh 10 kilograms. Which means that a billion dollars will weigh 10 tons, and since Apple is sitting on around $41 billion on cash and short investments, then they are literally sitting on 410 tons of cash (or around 820 tons of gold, at today’s price). Now let’s go back to discussing the point, a high company liquidity means that the company is saving money for rainy days, and it’s here to stay. It also means that the company is conservative in its spending (why would you leave uninvested cash when you can nearly double the amount if smartly invested). High company liquidity is a very healthy factor.
Relatively low goodwill value: Goodwill is what a company thinks its brand is worth in the market. Apple’s goodwill value is $741 million, that’s 0.2% of its total market capitalization, and we know that Apple is one of the most respected brands in the world. BioScrip’s goodwill value is $324 million, that’s 85% of its total market capitalization. Hmmm…
Great technical data: There are many technical data that makes a stock “good” especially the MACD, the RSI, and the Fibonacci. Always pay attention to the technicals.
Good sector: A stock’s good characteristics fade when the stock is considered to be in a bad sector (for example, take a look at bank stocks in the second half of 2010, actually take a look at them now). It is important to correctly to assess the stock’s sector before buying it. Good sectors right now include Commodities and Technology.
Good news, most of the time: The stock’s company should be issuing good news, if not all the time, then at least most of the time. If the bad news surpass the good news, then stay way of the stock, even if it meets all the other characteristics. Markets are moody, and the sentence “Buy the rumor, sell the truth” always prevails.
When a stock meets all the above criteria, then it is considered a good stock, and buying it is highly recommended. I will try to create a list of the top 100 good stocks in the next few days (it’ll be complicated, but definitely worth it).