7 Rules For Finding Stocks That Will Double

October 10, 2017

7 Rules For Finding Stocks That Will Double

  • I’ll describe 6 stocks that have recently doubled that give us good guidelines on finding the next stock that will double.
  • If you do the research, it isn’t that tough to find stocks that will double or more. Perhaps the reason we don’t always find them is our psychology, predictably.
  • The analyzed stocks include a miner, a wealth management company, a social media company, an education company, a paper company, and a big pharmaceutical.



Introduction

I wrote an article not too long ago about where and how to find stocks that will potentially double or even become multi-baggers, and described a few sectors to look at to find these stocks.

In today’s article, I want to dig a bit deeper and show you what should you look for in a specific stock that can indicate multi-bagger potential or at least a 50% return in a year, as Buffett used to do when he was younger.

I’ll start by describing 6 stocks that I have been following for a long time, thus I know them well, that have increased more than 50% since I recommended them. At the end of this article, I’ll summarize my guidelines in a few rules that will help you in finding similar stocks.

Hudbay Minerals (NYSE: HBM)

HBM is a copper miner. Its stock price is very volatile.

Figure 1: HBM’s stock price in the last year. Source: CNN Money.

However, HBM’s value is in the long term, coming from the low cost projects it owns like the Rosemont project in Arizona, and the Constancia operating mine in Peru.

Figure 2: HBM’s Rosemont project in Arizona is expected to produce copper for 19 years at low cost. Source: HBM.

When a company with such long-term value projects gets into temporary trouble like HBM did in May 2017, it’s the time to buy because eventually, the long term fundamental value will defy the temporary negative sentiment.

HBM’s stock price dropped below $5 in June 2017 because the company missed estimated revenue and earnings.

Figure 3: HBM’s Q1 2017 earnings and revenue miss. Source: Seeking Alpha.

The main reasons for the miss were a number of onetime mill maintenance costs and delays that impacted production where an engine needed immediate attendance, and low opening concentration increases and late quarter sales. The management even discussed how the current situation should be the worst possible in the next five years as HBM would mine higher grade ore and further lower costs. Nevertheless, the negative news from May persisted for almost two months and pushed the stock from over $6 to below $5.

As copper prices strengthened due to an imminent supply gap, the stock quickly recovered from May to a price level close to $9 which represents an almost 100% increase in just a few months.

I must say, HBM was a relatively easy call. The copper trend was strong, the issues were clearly temporary, and it was just a matter of time until the market recognized the value, which brings me to the first thing to look for.

When looking for stocks that will double, look for temporary issues that aren’t structural in nature and will be resolved quickly in a good company that is operating positively with good future prospects, and where the temporary negative sentiment has depressed the stock price.



Jupai Holdings (NYSE: JP)

JP is a Chinese wealth manager that had its IPO in 2015 and was really flying under the radar until the last two months.

Figure 4: JP’s stock price has skyrocketed in the last two months. Source: CNN Money.

The issue with Chinese IPOs is that Wall Street is extremely wary of them because there have been many frauds. This made JP go nowhere even though the company was growing at staggering rates, was profitable, and had a dividend yield of 10%.

Figure 5: JP’s growth rates. Source: JP.

What was necessary with JP was to check the data beyond what data providers were offering because their dividend yield was much lower due to a bad calculation of the number of ADR stocks, it was necessary to check whether the company was a fraud which was easily done as the owner has owned another Nasdaq listed Chinese company, E-House which was taken private at a nice premium.

On top of everything, I tried to find, and got confirmation from, a few Chinese friends that used JP’s services in China where JP offers mostly high yield real estate-related fixed income products. As I also researched the Chinese real estate market, I was well convinced that JP could really be a good investment.

Now the issues were the low traded volume, but this was mitigated by the almost 10% dividend yield that made you happy while you waited for the market to recognize the potential. It took about two years from the initial IPO, but eventually the stock exploded. This shows how it’s extremely difficult to time when a stock will explode even if the fundamentals look great. I must say though, the dividend really helped in this case.

In this example, the take-away advice is to look for companies that are misunderstood by the market but have continually improving fundamentals in a growth industry. If the company rewards you with a nice dividend and strong earnings while you wait, even better.

Such a complicated stock requires much more research than the HBM example and more patience as you never know when the market will recognize the company, but it’s eventually very rewarding.

YY Inc. (NASDAQ: YY)

YY is a Chinese live streaming platform with scantily clad girls that entices a mostly male audience. The company earns its revenue by getting a cut on the virtual gifts viewers give to live performers.

Figure 6: YY’s business model. Source: YY.

YY’s revenue was also growing very fast, but investors grew scared when a new competitor, MOMO, quickly gained significant market share. This really depressed YY’s stock and made YY, which grew revenue and profit 40% in 2016, trade at a single digit price earnings ratio.

Figure 7: YY’s stock price in the last 5 years. Source: CNN Money.

Investors’ panic was  clearly irrational as the live streaming market in China continues to grow at an impressive rate and can easily absorb new players without hurting established players too much. It was highly unlikely that YY would lose customers or see revenues declining due to it being the leader in a growth industry.

The funny thing is that MOMO recently reported a slowdown in growth which further propelled YY’s stock price which still seems cheap as it has a price to earnings ratio of 19 and expects growth of 30% in 2017.

The main take-away from YY is that investors can get really irrational especially when it’s about new business models. However, strong fundamentals and low valuations in a growth industry provide a margin of safety when investing in such companies with relatively untested business models.



Kapstone Paper and Packaging (NYSE: KS)

KS got onto my radar at the beginning of 2016. I bought in at $11 only to watch the stock go down to almost $7.

Figure 8: KS’s stock price in the last 3 years. Source: CNN Money.

Thankfully, the stock quickly recovered and I could sell it at a nice profit. So there’s another thing to learn, even if a stock seems to already be a bargain, it can always go lower. When there is so much pessimism surrounding the stock, the best thing to do is to look for the probability that the company will go bankrupt. If the probability is low or even nonexistent, then it’s time to bet the farm.

The story behind KS is that it’s a company growing through acquisitions. It’s a smart thing to do as the corrugated paper sector is growing with all the online business activity. As in the other examples discussed, the sector fundamentals were positive with normal ups and downs. However, KS’s acquisitions made its earnings very volatile as it takes some time to get to synergy benefits and an acquisition always leads to extra costs.

Figure 9: KS’s acquisition strategy. Source: KS.

So every acquisition leads to some troubled quarters but eventually, to more growth. As most analysts are myopic, they immediately reflect the latest quarter into the future and usually downgrade the company which leads toward a market sell-off. The fact that the company has so many subsidiaries in a growing sector makes it highly unlikely to go bust as it can always sell something to cover for eventual liquidity needs. Additionally, the book value of almost $10 provided a margin of safety when the stock was below that. So, the thing to look for is, again, temporary difficulties in a growth sector where the temporary difficulties can arise from well planned acquisitions that take some time to deliver synergies. Volatile earnings are a very special treat for the value investor as most investors have difficulties understanding a volatile business model.

Teva Pharmaceuticals (NYSE: TEVA)

Now, why am I mentioning a stock that has fallen 75% in the last year as a case study for finding stocks that will double? Well, I think there’s a lot to learn from TEVA’s case.

The most important thing to learn is to never trust the management. Always find external sources that confirm the investing thesis.

Figure 10: TEVA’s stock price. Source: CNN Money.

TEVA’s management was always very positive about earnings based on their expectations and it made the stock look like a bargain at $40 because expected long-term average earnings were above $5.

Figure 11: TEVA’s management expectations. Source: TEVA.

The issue became clear when TEVA had to cut its dividend and a stream of bad news affected its earnings and made the stock drop below $20. The company’s outlook deteriorated so quickly that it took many investors by surprise, with the exception of those who had done their due diligence as it was clear that the competition was intensifying and TEVA wouldn’t be able to keep its high margins.

The thing to learn with TEVA is to never trust the management and always look for what can go wrong. Only when the stock is a bargain, even if all that can go wrong, goes wrong, then a proper value investor should make the purchase based on independent research and not on what the management says.

Hailiang Education (NASDAQ: HLG)

HLG is a Chinese education stock that has been growing at around 25% per year and has just built a new school which will allow for more students and continued growth. The stock was trading at a PE ratio of 15 and a price to book value of 1.6 just a few months ago but has recently exploded.

Figure 12: HLG’s stock in the last year. Source: CNN Money.

HLG had much better fundamentals than the competition and a great growth outlook as the earnings were temporarily down due to a 27% increase in the number of teachers related to the new school. However, as enrollments are increasing, this is also changing.

Figure 13: HLG compared to sector prior to stock price spike. Source: Author’s research.



The only issue with the company was the extremely low liquidity which made it difficult to instantly buy shares. Only those who patiently accumulated over time could have created a significant position. Nevertheless, the thing to learn here is that liquidity always comes at a premium and it’s always good to allocate a part of your portfolio to great illiquid small caps that nobody wants to sell because they are great businesses.

Sven’s Rules For Finding Stocks That Could Double

  • Look for temporary issues in a stable company and growth sector. If the sector fundamentals are healthy, it will pull the company up even if there is something negative temporarily plaguing it. Always dig deep into figuring out if something is temporary or not and what the probability is that the issue becomes permanent.
  • Look for companies that are misunderstood by the market but have continually improving fundamentals in a growth industry. Sometimes something is cheap just because the market doesn’t see it.
  • Strong fundamentals and low valuations in a growth industry provide a margin of safety.
  • Even if the stock already seems like a bargain, it can always go even lower so never buy a complete position immediately.
  • Look for volatile earnings as they are a very special treat for the value investor because most investors have difficulties understanding a volatile business model.
  • Never trust the management and always research the thesis using external, independent sources.
  • Liquidity always comes at a premium and it’s always good to allocate a part of your portfolio in great illiquid small caps that nobody wants to sell because they are great businesses.

By Sven Carlin Investing Strategy Investiv Daily Stocks Share: