How to find growth stocks like the Naked Trader
For many investors, the perennial appeal of fast growing stocks is their ability to deliver outsize capital returns. Forget value, forget dividend income… growth in its purest form is all about fast-paced earnings expansion lighting a fire under share prices. It’s about going big or going home. It’s the classic territory of popular traders like Mark Minervini and William O’Neil - and it’s a strategy that’s made them famous.
But there is another way. Growth investing doesn’t always have to be about buying fast moving shares at any price. Over the years, it has evolved a second strand. Once upon a time growth investors paid little attention to valuation. These days, “growth at a reasonable price” (GARP) is, for some, a much more palatable way of doing things.
Balancing growth and value
One of the early advocates for buying growth stocks at reasonable prices was Peter Lynch. The former Fidelity Investments money manager used what he called the price to earnings growth rate - the PEG - to ensure he wasn’t over paying for expected future growth.
The PEG works by taking last year's price-to-earnings ratio and dividing it by the consensus forecast earnings growth for the next year. A PEG of less than 1.0 means you could be buying growth on the cheap. Any more than 1.0 and it could be looking expensive
Lynch used this approach very successfully, and others followed. Today, GARP strategies are some of the best known go-to methods of finding small-cap stocks that could be tomorrow’s growth stars. In most cases, the strategies are multi-faceted: they look for a range of factors that tend to be the fingerprints of successful growth investments.
One of the most popular - and a long-term successful strategy modelled by Stockopedia - is the approach used by Robbie Burns, the Naked Trader.
Robbie is best known for his book, The Naked Trader: How Anyone Can Make Money Trading Shares. In it, he outlines a strategy that uses a range of measures spanning growth, price momentum and value factors and focuses on small and mid-cap stocks. He also uses some non-financial, qualitative rules in his analysis.
Like many GARP strategies, the Naked Trader approach looks for positive sales and earnings growth over the past year - and net debt should be well under control. In terms of momentum, the price of the stock should be up against the market over the past year and it should be well away from its 52-week low.
In addition, this strategy looks for a PE ratio of less than 20 times earnings and for price to pre-tax profits to be under control as well. These valuation checks are about making sure that the market isn’t already pricing-in very high expectations.
The second half of 2018 was pretty hard on the strategy, but otherwise it has performed consistently well over the past seven years. The five year return, pre costs and refreshed quarterly, stands at 67.4%.
In line with the original rules back at the start, the tracked model doesn’t include AIM stocks. However, I’ve removed the AIM exclusion with this version of the screen. Here are some of the companies currently passing the rules:
Name | Mkt Cap £m | EPS Growth % | Sales Growth % | Price Chg 1y % | P/E Ratio | Sector |
669.2 | 27.8 | 18.9 | +10.9 | 9.0 | ||
57.8 | 34.3 | 5.01 | +53.2 | 9.3 | ||
138.8 | 33.2 | 10.7 | +5.4 | 11.1 | ||
398.1 | 2.89 | 2.29 | +2.7 | 11.2 | ||
118 | 19.2 | 9.88 | +6.7 | 11.5 | ||
323.6 | 20.8 | 5.82 | +3.4 | 11.7 | ||
660 | 6.9 | 4.74 | +2.54 | 11.9 | ||
72.5 | 17.9 | 10.9 | +77.1 | 12.3 | ||
390.2 | 228 | 16.5 | +46.3 | 12.8 | ||
477.1 | 30.2 | 36.0 | +15.6 | 12.9 |
This definitely isn’t necessarily reflective of what Robbie either owns or would own - it simply echoes the spirit of his kind of GARP approach. There are stocks here that, as far as I can tell, he’s never traded and others that he has held in the past.
All of these shares have performed well against the market over the past year, but remain on PE ratios of less than 13 times earnings. With a market cap of £670 million, GCP Student Living is the largest stock here by market cap, and also the cheapest based on its PE. That said, it’s potentially an outlier given that it’s a real estate investment trust. Among the others are well known small-cap names with strong growth profiles - ranging from the construction specialist T Clarke, floorcovering firm Headlam, toy company Character and hire chain Speedy Hire.
Growth at sane prices
At any time, the number of companies passing the rules for GARP strategies can be a useful gauge of the market. In upbeat conditions, when investors are moving into smaller growth plays and driving up their momentum, the numbers of stocks passing the rules tends to rise. But when momentum falters and the market goes risk-off, these strategies can struggle for ideas.
Right now, the numbers in recent months have been rising. Growth stocks tend to be where the excitement is, but stretched valuations can leave investors exposed. Taking the essence of growth and mixing in reasonable valuations could be a safer option.
About Ben Hobson
Stockopedia writer, editor, researcher and interviewer!
Disclaimer - This is not financial advice. Our content is intended to be used and must be used for information and education purposes only. Please read our disclaimer and terms and conditions to understand our obligations.
I would agree. Having spent a couple of days with Robbie on his seminars his method does not lend itself easily to a screen approach. Sure his picks have the characteristics of this screen but having watched him 'live' I can report this is just the beginning of his approach. Robbie is a trader, not so much an investor ( I think the clue is in the name!) It doesn't surprise me that some of his recent buys are at 52 week lows as they represent good value on the turn. Robbie famously often appears to play down TA but i'm convinced he pays much more attention to MA and volume than he lets on. Specifically he is very very focused on buying pressure which he deduces using level 2 data, to time his (no doubt very carefully fundamentally calculated ) buys!
A screen will not capture how he works I think except ( and ive asked Stokopedia to do this) except if you include TA based criteria in the screen. Even then it could produce short term buys so the screen really ought to say when the time has come to sell! Note also Robbie sometimes times these buys as a 'top up' to long term conviction holds, so its all in the context!
I went on a couple of his courses some years ago, one of the most noticeable things he did (and still does on the blog) is to not be afraid to add to existing positions as the price goes up. I think this is probably where he’s made most of his money, using price momentum to turn a small position into significant gains. Take Ab Dynamics (LON:ABDP), I think he originally bought around £7 and then kept adding as the price rose.
Many people use the reverse and take profits off the table as the price rises - and like to average down on their losers! It’s this single bit of advice that stuck in my mind the most from his sessions.
Ab Dynamics (LON:ABDP) have announced the acquisition of Kangaloosh Limited, trading as rFpro, a leading developer and provider of engineering grade simulation software providing highly accurate virtual representations of public roads, test tracks and racing circuits. While this sounds a good fit, a cost of £18.1m plus up to £3.5m for a company generating sales of £4.2m and profit of £1.3m (both up about 20% on the previous year) seems a bit excessive IMHO
Andrea Ab Dynamics (LON:ABDP) are on a PE of 40, whilst at a cost of say £20M rFpro are on an Cap/PTP of 15'ish, so it is cheap by comparison, especially if its technology is synergistic to AB.
AB say the deal is earnings enhancing after the 1st year - We shall see.
Robbie's style (from seminars) is to buy stocks likely to rise, check they have momentum today on price, debt levels and pension deficits are not too high. He has a selection pattern and can wizz through a bunch of stocks fairly quickly. He doesn't read through balance sheets or annual reports, but does scan through the latest results with key words automatically highlighted.
He always starts with small purchases, which enables him to get out quick if the trade doesn't work.
Also he trades opportunities, buys IPOs, shorts a few companies with high debt burdens, etc.
The best part of his trading (in my opinion) is to quickly cut losses and run profits, building positions as they rise.
So his stock selection needed be so detailed and accurate, as his ratio of average win to average loss should be high, enabling him to 'test out' a few new shares every month, knowing he'll quickly cut the ones which don't rise and hang onto the winners.
Also he's good at hedging down-markets with FTSE shorts.
It's a darwinistic survival model, based on an initial selection pattern, followed by cut or hold and build.
If you want to emulate his strategy, I think his strong position management is at least as important as the initial selection decision.
Hi Ian & Andrea
There was a comment on Twitter regarding the purchase of rFpro by former Ab Dynamics (LON:ABDP) CEO Tim Rogers. He used the analogy that, if auto simulation were like mobile computing, it would be like Apple buying and owning the Android OS. From following Tim on Twitter, his contributions are insightful, well-measured and he isn't prone to exaggeration. If his analogy is correct, this sounds like this is a useful moat?
Regards
Paul
I have followed Robbie's blog where he quotes all his buys and sales for a few years, he generally buys around £3-4k, he may then if thinks are going well makes another buy usually a similar amount. On rare occasions he may have more than 2 buys in the same share. His win ratio was high when I last checked, over 70%, more recently he has quite a low target, often around 10-20%, yes he may run the winners more than the target price. His stop loss is around 10% but does vary a bit. He does have quite a few shares on the go, in May he bought 14 different shares and sold 5 I think, so he has many small investments, so wide spread and he does not average down very much. A quick count he has about 60 buys that he has not sold yet, probably about 50 different shares.
*Past performance is no indicator of future performance. Performance returns are based on hypothetical scenarios and do not represent an actual investment.
This site cannot substitute for professional investment advice or independent factual verification. To use Stockopedia, you must accept our Terms of Use, Privacy and Disclaimer & FSG. All services are provided by Stockopedia Ltd, United Kingdom (company number 06367267). For Australian users: Stockopedia Ltd, ABN 39 757 874 670 is a Corporate Authorised Representative of Daylight Financial Group Pty Ltd ABN 77 633 984 773, AFSL 521404.
I'm not sure why you are highligting this screen, it has not performed well over the last year down 10%, other growth screens have outperformed it over 1 and 5 years such as the Jim Slater Zulu screen +10.8% and +118% respectfully.
Yes I agree about Robbie Burns shares, I don't think he has any of those shares in his portfolio, his latest buys are Andrews Sykes (LON:ASY), ITV (LON:ITV), Gamma Communications (LON:GAMA), Synthomer (LON:SYNT), Avon Rubber (LON:AVON), Computacenter (LON:CCC) and Solid State (LON:SOLI). I'm not sure some of those rules apply anymore, I think he is looking for a change in momentum, some of his buys are near their 52 week low.