Quickly Evaluate Stock Potential with Long-Term Chart

As we already stated in our last Portfolio Update back in May, briefly looking at long term stock graphs can tell you a lot and allow you to quickly sort out potential investing contenders.

Rarely will you let out an immediate genuine wow! Likely favourites may shockingly produce a deceiving yuck! And iffy candidates, in a flash, may appear surprisingly much brighter than anticipated.  

That first glance may sometimes leave you a little puzzled but most of the time, it will instantly fix your opinion about the long haul potential of a stock, thus changing or confirming your initial inclination.

We know past performance doesn’t guarantee future results but you surely have better chances of success choosing solid proven long term performers constantly going up than erratic unpredictable loose cannons.

We really think a long approach is vital to our DIY Portfolio. Our point of view kind of goes against the grain as the financial industry appears to focus a lot on short term performance. It’s probably because the more individual investors make trades; the more they collect transaction fees. The brokerage firms and financial institutions make a lot of money with credulous frequent traders and probably hate long term investors that only buy or sell a few times a year like us.

It’s also astonishing how media seems to play into these financial institutions’ game practically only presenting today’s fluctuations of financial indicators, stock markets and often concentrating our attention on daily big winners and losers, all examples of a very short term perspective. Sadly, information agencies and main stream financial websites rarely adopt a more long term standpoint when they talk about stocks. When is the last time you saw long term figures of a stock on the news? They even talk less about boring long haul profitable stocks we prefer and profit from the most. But we know why: it wouldn’t be exciting enough news their hungry-for-sensation public is craving for...In our supposedly trouble times, most long lasting successful corporations don’t make up much of a story.

All this to say that even if many are trying to distract us from a long haul perspective, it remains crucial to us and we have to find practical ways to get back to it as quickly as possible after weaker moments made us wander away.

Today’s article discusses one of those methods helping us keep a long view focus while investing in stocks.

The Perfect Stock

Although it may be a utopian concept that will probably never be possible to achieve in practice, we can still strive toward the «perfect stock» or the «perfect long term stock trend» and use that amazing notion to compare and evaluate potential candidates, ultimately making better investing decisions and stock choices.

Let’s begin by defining the perfect stock, then identifying what the perfect long term stock graph would look like and what are its fundamental characteristics.

Simply put, the perfect stock value goes up every single year by the same proportion (a fixed percentage between 8% and 12%) making it both predictable and dependable.

For instance, the two charts first presented in May (The Perfect Stock and The perfect Stock Trend) actually represent a constant 10% annual price increase for a long period of time (almost 50 years).

You will notice the distinctive arc shape of the perfect stock graph explicable by the renowned mighty compounding effect of a regular return over time.

This leads us to identifiable fundamental characteristics of long term stock charts. Let’s start off with the appealing stuff, the desirable features we should all essentially be looking for.

Desirable Features of Long-Term Graphs

We will now discuss general qualities of the perfect stock that should help you identify strong healthy stocks to enhance your portfolio. You should easily be able to point out these desired features after a rapid look at any long term chart.

Let’s start with an obvious yet vital condition: a general long-term trend that goes up. Many may take this first characteristic as a given but you would be surprised how many candidates don’t actually meet this simple basic criteria.

A positive price appreciation over the years in not sufficient, an actual rising trend has to be observed on the graph. Note that it’s possible that some stocks value went up in the last 20 years without a noticeable trend showing up on the chart, thus not fulfilling this indispensable basic condition.

The second perfect stock sought-after characteristic is possibly the most distinguishable: its typical arc shape graph. Looking at performing long term stocks, we will most likely first notice a slow start at the bottom left and a lot of empty space on the top left of their charts. Over the years, prices steadily pick up and produce a visible climb a little into the second half of the diagram. Values will then often seem to skyrocket near the end and last part of the graph.

This remarkable exponential effect is simply created by the constant compounding yield. Don’t get us wrong, in real life, market and stock returns are far from regular and steady. But getting as close as possible to the perfect stock trend can be considered one of the secrets of achieving great long haul stock performance as steady returns will produce incredible results with a touch of patience over any substantial period of time.

Even though this ideal arc shape is quite rare, it will still help you analyse and compare any stock chart. Every contender can be evaluated and downgraded accordingly to how much it strays away from the optimal path.

A quick note to tell you that over only 20 years (the period we now use to analyse stock charts), the arc shape is not as pronounced and may be a little more difficult to spot. Validating the arc shape on a chart extended over a longer period like 50 years can be much more obvious. But unfortunately, historical data over half a century is not available for every company. Heck, many stocks are not even that old.

You also have to consider that a lot of lengthier charts (more than 50 years) look very good, maybe too good as by definition, stocks than survived than long have to be extremely robust. Maybe we should choose them more often but that’s a whole other debate in itself.

For those technical reasons, in may be much simpler to look for stock charts that show constant appreciation and improvement despite inevitable minor short-term setbacks as it will probably lead you to the strongest stocks for your portfolio. When you acquire these solid champions, you know what you are getting in for. When market conditions are less ideal and things are not going as well, instead of sharply going down, they often only mark a pause or a slight decline before continuing their progression back up.

Ultimately, you can have a pretty good idea of what these stocks will give you in the long run essentially because they are predictable.

Predicting and speculating about short-term market or stock movements is next to impossible. But identifying predictable long-term patterns can help you invest more wisely.

You can use the predictability test to check out candidates. Just hide the last portion of the stock graph and try to guess the general shape of that hidden portion. This should be easily achieved for any predictable stock. 

Building the core of your portfolio around steady reliable stocks with qualities as similar as possible to the perfect stock should help you succeed.

With experience, you’ll see that solid steady reliable candidates at first may seem a bit slower but will provide much more predictable efficient results in the long haul as those fast and furious ones. We still like the film series for entertainment yet we sleep a lot better at night relying on our dull steady long-term stock performers.

Consider Unwanted Characteristics with Extra Caution

Let’s transition to the nasty stuff we want to avoid.

Evidently, candidates with general downtrend should simply be dismissed. Contenders that run all over the place (maybe the fast and furious mentioned above) with no distinguishable trend also have to be disregarded.

Some people think they can predict economical cycle and make money buying and selling stocks accordingly. Let’s just say we have our doubts about speculating that way. Bravo to the rare ones who possess the ability and the balls to do so but it’s simply not our cup of tea.

That being said, you already know our style is to avoid cyclical stocks like the plague. The good news is that most of the time, you can spot them a mile away on long-term graphs.

So, try to stay away from anything too wavy. Big waves are fun and exciting on the beach like thrilling roller coasters can be at the amusement park. Just keep in mind we don’t necessarily look for an exciting thrilling portfolio. We prefer an effective reliable portfolio even if sometimes, it means remaining on the boring side.

Even be sceptical about cyclicals with nice looking general long-term uptrend because the next huge down surge could wash you away. Like on the ocean, ever present waves are a fact of life on the stock market so remain extra careful about the bigger ones that can be extremely dangerous even if you think you are a very skilled swimmer.   

In the same fashion, you should be very cautious about big fluctuations as well, even the sharp upward type as they can be very appealing yet way too risky for the long term health of your portfolio.

By now, probabilities are you already know how we would define weaker long-term candidates.  Let’s summarize it by telling you to keep away from apparently volatile erratic unpredictable stocks, there’s a good chance they are not worthy of your trust, or at least not as profitable long haul members of your portfolio.

Acceptable Compromises

Because it may be a pipe dream, let’s stay realistic and give ourselves some leeway in our quest for the perfect stock. Hence, we should show some leniency when we come across the following vindicating conditions and consider them as some sort of acceptable compromises.

When you look at long-term stock graphs, remember that flat is always better than down or erratic. So you should give flat or neutral sections at least an average grade. Keep in mind you can afford to remain patient because you will still collect dividends while a solid stock marks a pause in its progression.

In fact, short-term declines may even be better as they can provide buying opportunities at lower prices. So, accept small or to some extent moderate price fluctuations as long as they don’t disrupt the general tendency too much.

In reality, stock and market prices are always fluctuating quite a lot.  Successful long-term investors have learned to live with it and stay calm in turbulent times. Actually, they welcome those temporary setbacks and use them to acquire additional shares of their favourite stocks.

Earlier, we stated roller coaster patterns should be avoided almost at any cost. While the statement concerning bigger coasters still prevails, let’s nuance our point of view a bit and say that you should ride and enjoy smaller roller coasters especially if you manage to board them near their lowest point. Just bear in mind you still have to ensure you hop on to solid stock coasters and not defective ones.

To some measure, we also have to tolerate price declines that correspond with general stock market corrections like the 2008-09 financial crisis and the tech bubble that happened close to year 2000. Stocks affected by these major events still won’t get a perfect grade as some rare sturdy ones manage to resist despite those catastrophic type occurrences but we will always show some mercy around those circumstances and not reduce scores as much.    

Learn to Quickly Grade Long-Term Stock Graphs

Speaking of how we grade long-term stock graphs, we like to approximate the overall score of a stock graph by dividing it into suitable sections and average them out. The length and number of sections will vary from graph to graph.

For example, looking at this particular stock chart, you would roughly estimate it’s divided in three sections.  The fist quarter of the chart is relatively flat and would score 6 out of 10, the quite erratic second quarter would get only a 3 and the almost perfect last half would score a very nice 9.5. The total score for that chart would average out to 7 (6/4+3/4+9.5/2=28/4).

Taking a lot of time to study a chart is not necessary. You should manage to analyse it and obtain a grade within a minute or two. The main objective of that type of long-term chart study is to get a general impression that will help you quickly evaluate and compare possible candidates.

Details about Our 20-Year Trend Info

To help consider these vital long-term implications, we’ve now included 20-Year Trend info to our Portfolio, Watch List and Monitor List reports.

The first column Capital lists annualized capital appreciation over the length of the chart (20 years or a little less depending on available data). Using initial and ending stock prices, we can extrapolate an estimated implicit return.

The second column Grade incorporates a few features. The number is the average of two scores. The first score uses the first column value to evaluate long-term performance. For instance, a 7-8% return scores an ordinary 5, 11-12% gives a decent 7, 14-15% a strong 9 and performance over 20% will score a perfect 10. The second score is linked to the trend of the stock graph for the last 20 years. It is calculated like in the above example (Quick Estimate Grading).

The second feature is a word that qualifies the grade: Excellent for grades above 8.5, Good above 7, Decent above 6 and Poor under 6. The last useful add-on you can notice is a clickable link to the corresponding StockChart.

The third and last column Comment presents a short commentary or explanation that summarizes our overall appreciation of the related stock.

 

Be Careful about Early Conclusions and Hasty Decisions

We are convinced a glance at long-term stock charts can facilitate you evaluation of eventual pretenders for your portfolio.

But again, be careful about jumping to conclusions. A perfect or good looking graph does not guarantee automatic success. Studying long haul stock graphs should only be one of the elements considered in your investing decisions.

Due diligence or research about fundamental metrics of every potential candidate is still necessary and goes far out of the scope of this article. An investment professional should also be consulted if need be.

All this being said, remember that buying dull yet predictable stocks can probably do wonders for your portfolio in the long run. Hope you are not too tired of hearing that same old tune from us!

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