Recently, I have been doing more research into portfolio trading strategies, particularly those that are based on financial ratios such as PE ratios.
I seem to like these strategies because they appear to be robust, possibly more so than purely technical trading systems. They appeal more strongly to my logical side, the part of my brain which says you should never buy anything unless you know you are getting a good deal.
No matter what it is; a stock, a house, a car, it should only be bought if it is undervalued, it should be a good deal. After all, you wouldn’t buy a house if it was overvalued so why should you buy a stock that is?
Designing a portfolio strategy for stocks
I realised that many of my favourite stocks shared very similar characteristics and that these characteristics could be quickly identified on screen.
If you take a look at the below screen grabs from Finviz, you’ll notice that all three companies share relatively similar profiles:
What interests me most are the values in the second column. The valuation ratios are mostly all green and they are all in single digits. Previously, stocks with these kinds of profiles have been good performers for me.
Because of this random revelation I decided to fire up the simulator at Portfolio123.com and see whether there was anything of merit to a strategy that looked for stocks with single digit valuation metrics.
To my surprise, I found that the strategy did indeed produce fairly robust returns over the data available. I then did some further testing and analysis and again I found some very good results. This time I modified the rules and included a technical rule and a stricter set of criteria.
The strategy seemed to be apt at picking out beaten down, bargain-basement stocks and holding them for a good profit.
I therefore called this strategy the ‘Extreme Discount’ system and added it to the HTBWS course.