Book Review > Your Next Great Stock

“Too many investors use a company-by-company approach to stock (share) investing...collecting tips from friends or financial professionals...and basing their buying decisions on anecdotes rather than evidence,” says Jack Hough. He asserts that this approach rarely works and in writing “Your Next Great Stock”, aims to demonstrate to the reader the “power of stock screening to uncover and interpret important clues as to where a company and its stock may be headed”.

Hough has written the book more as “a detective manual” than an investment book using a “Sherlock Holmes” approach to search for particular clues using a method known as “stock screening”. According to Hough, stock screening “allows you you to size up thousands of shares in seconds ... to reduce the company database to a dozen or so prime suspects ... allowing you to focus on the companies most likely to produce sizeable gains”.

The book is written in four parts. In part one, titled “Your Next Great Stock”, Hough provides the answers to the questions “whether it’s possible to beat the stock market or whether you should try”. Additionally he provides a discussion on:

• Why you should own stocks
• A short history of finance theory and why you “absolutely can beat the market”
• Psychology and decision-making skills
• Risk and reward
• The five things that a stock-picking strategy must have

“Tools and Clues” is part two of the book. Here, Hough discusses what’s “in that mountain of information you’re going to screen through and which tools are best for the job”. Although Hough identifies mostly American websites in chapter eight of this part, with a little research, local readers should be able to find the Australian equivalent of the websites he discusses in order to conduct their own stock screening. There is also a discussion on financial statement analysis, things you can screen for and tips on how to best use each piece of information.

The nuts and bolts of the book are contained in part three, where you’ll find some of the most powerful stock-screening strategies that Hough has, by his own addmission, “shamelessly stolen from the world’s best financial minds”. The purpose of these screening strategies is to generate short research lists, and not automatic buy lists. With this in mind, Hough reminds the reader that “any stock screen can reduce the field of candidates to a manageable number...while at the same time, improving their returns”.

Chapters 12 through to 23 provide an individual discussion of each stock screening strategy, covering topics such as a short history of the strategy, results of academic studies based on the strategy, the strategy itself and variations to it, and other tips relating to the strategy. Examples of the screens include:

• Buy High, Sell Higher – why share price momentum is one of the best predictors of higher stock prices
• Surprise, Surprise – why positive earnings surprises tend to foretell big stock gains
• Follow the Leaders – which share purchases by company executives are likely to predict big gains
• Sales on Sale – why one of the simplest measure of whether a stock is cheap is also one of the best
• Guru – how to put some of the strategies of some of the world’s greatest investors to work in your portfolio

Hough says that “most of the strategies come from leading-edge market researchers ... all are backed up with concrete evidence that they work ... and a few are designed to mimic market-crushing money managers”.

Finally, in part four Hough discusses how to research the results of your screens to decide which ones to buy and then knowing when to sell.

Although Hough has written his book for the American reader, the information that he provides can be equally applied to the Australian market using the many Australian-based internet sites to find the relevant information. At $37.95 the book is well worth reading for the practical advice and ideas that it contains for your own portfolio.
As usual, investors should conduct their own research and seek guidance from trusted advisers.

Vimal Mehta is a member of the AIA.