William O’Neil Art of Stock Selection - Market Wizards
William O’Neil is another star investor profiled in the book Market Wizards. Mixing a unique quantitative and qualitative growth investment strategy, O’Neil achieved dramatic investing success. In 1963 at age 30, he capitalized on this success by launching the brokerage firm William O’Neil & Co, and became the youngest member of the New York Stock Exchange at the time. In 1983, O’Neil launched Investor’s Business Daily, a popular investment publication that incorporates his investment philosophy. In Market Wizards, O’Neil shares some of the keys to his investing success.
O’Neil does not simply buy low priced stocks with low traditional valuation measures, such as a low P/E ratio. He cautions against investing in value traps, stocks that have attractive valuations but flat line in price. Instead, O’Neil employs a growth focused quantitative and qualitative strategy. He uses the acronym CANSLIM to describe this investing strategy.
C
C stands for current earnings per share. O’Neil’s back tested research indicated that the best stocks normally have large earnings increases in the current quarter before the stock price increases. Thus, this type of current quarter earnings increase is a leading indicator. Rising earnings drive fundamental growth.
A
The A stands for annual earnings per share. Again, O’Neil’s back tested research demonstrated that top performing growth stocks had a prior 5 year compound annual growth rate (CAGR) of 25%. Because of this correlation between strong earnings and stock performance, O’Neil seeks stocks that have consistent strong year over year earnings growth.
N
A new innovative catalyst is another key factor that O’Neil seeks in potential investments. Identifying a growth catalyst for a specific company, such as a new product or service, is important. Selecting stocks with potential catalyst reduces the risk of buying a value trap.
S
S stands for supply and demand. If a stock has limited shares outstanding, more buying will help drive up the stock price. I think this also links to investing in smaller cap stocks with less shares outstanding. Institutional buying in some of these small cap stocks that are not traditionally followed by the large institutional players can dramatically move stock prices.
L
The L symbolizes leader over laggard. O’Neil favors investing in stocks that have strong price performance relative to peers during the previous 12 months.
I
The I stands for institutional sponsorship. Institutional stock investments can be somewhat volatile, or less stable than long-term investors. O’Neil does not invest in stocks that have very high institutional ownership. Instead, he favors purchasing stocks with lower levels of institutional ownership. By buying before institutions potentially do, investors’ can capitalize on stock price increases from this large buying.
M
M stands for market direction. Macro market moves generally dictate the price movement of individual stocks. Buying stocks after a major market downturn is a bad idea according to O’Neil.
O’Neil also shares some general macro strategies in Market Wizards. If stocks that have been leading a specific sector or market begin to break downward, that is an indicator of a weak market. Also, if the Fed raises rates 2-3 times, that is normally a bearish indicator. Last, high volatility indicates directional strength. For example, if a stock breaks to new highs on high volume that is a bullish indicator. If the stock breaks to new highs on low volume, that is a bearish indicator, as there is less demand to support future price increases.
Risk Control
O’Neil incorporates strong risk control into his investment strategy. Unlike Larry Hite, however, O’Neil runs a concentrated portfolio believing that “diversification is a hedge for ignorance.” To control risk, O’Neil uses a strict stop loss policy and sells stocks if the price falls more than 7%.
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