From time to time I have discussed why I have picked certain stocks for the Skyy Fund, but want to discuss further in detail. Every investor should have a certain set of criteria that a stock must meet before he or she decides to buy. My overall entry requirements aren’t really set in stone. Investing isn’t a science as much as it is an art form. Stock prices aren’t set by any kind of scientific measure and I don’t engage in buying stocks in such a manner either.
Basically, I have five entry requirements.
I look for a stock to have a current P/E ratio below 20. I define current price-earnings ratios by the ttm (trailing twelve months) figures. Forward P/E ratios are also helpful, but of course future EPS figures can only be analyzed and guessed, as nobody can tell the future. This is one criteria that I’m pretty firm on. A P/E ratio higher than 20 likely means the stock is overpriced for some reason.
5-Year Growth Of Dividend
A lot of dividend growth investors require 10 years or more of dividend growth. I’m not that strict, as that would preclude a lot of great companies that have less than 10 years of growth, but have clearly shown shareholders a commitment to dividend growth. When I look at companies that have less than 10 years of dividend growth I’m a little stricter in other departments and I will research a little further to feel confident that continued growth of EPS and dividends can be sustained.
A Great Product
This goes without saying. Any company I invest in must have a wonderful product that people either need, or want so badly that they are not willing to go without it. It should be a product that people loathe to go without. Once people drink a Coca-Cola and fall in love, it’s very hard to switch to store-brand cola products. Once you taste a Big Mac and love it, you are unlikely to stop buying Big Macs in the future. If you’re addicted to Marlboro’s, it’s likely that you are going to keep buying them…even if the price goes up. We all know of our dependence on oil. And this leads me to my next piece of criteria.
Any company that produces a wonderful product naturally has a degree of pricing power. They have the ability to raise prices with inflation to keep margins healthy. If McDonald’s raises the price of a meal tomorrow by five cents, that is probably going to have no effect on my decision to purchase that meal. I would think that most of the population would agree with me on that. Yet, that five cent increase means a big boost to margins for McDonald’s when you consider how many customers they serve worldwide on a daily basis!
Dividend Growth %
I generally like to see a 10-year dividend growth of at least 6% (annualized) before I’ll commit money to a position. I’m not extremely strict with this one and I will consider companies with slightly less growth, but not much. I prefer growth in the double digits when I can get it. For companies with less than 10 years of growth I shoot for a higher growth rate to compensate for the lack of record.
Work Hard or Work Smart?