Recovery shares can be big winners -- just make sure you don't pick one that's about to go bust.
Many private investors concentrate on loss-making technology shares, hoping to find the next Microsoft
(NASDAQ: MSFT)
. Snag is, for every Microsoft there are lots of jam-tomorrow shares that perform badly.
An alternative approach is to look for recovery shares. These are shares undergoing a severe corporate trauma, but which have the potential to survive and eventually prosper. Recovery stocks can make good investments because the market often over-reacts to bad news. When investors see that the worst is over, a share price can recover quickly.
A good example is Reuters
(LSE: RTR)
, the financial information company. It hit a low of 96p in March 2003, but soared to 429p within a year.* You'd have been very lucky if you had managed to get in and out at those prices, but it was certainly possible to invest at a low price and treble your money over a year.
And I believe the investment risk would not have been that great. Yes, Reuters certainly had its problems in March 2003, but I believe it was in little danger of going bust. Back then, Reuters' biggest issue was the end of the stock market boom. Good times meant that costs had become bloated at the company and there had been no real pressure to cut waste. What's more, Reuters had been too slack in fighting the threat from its upstart rival, Bloomberg.
In 2003 Reuters got its act together, and announced cost-cutting plans along with a simplification of its product range. The market came to accept that profits would start rising in 2005 -- which they did -- and the share price went over the 400p mark in February 2004.*
In fairness, many shares posted big gains during that period and the stock market as a whole put in a strong performance. But Reuters easily outperformed the market over that year. **
If you're looking for recovery stocks, The Motley Fool's online tipping service, Champion Shares, is a good place to start. Editor Maynard Paton is always on the lookout for troubled companies whose size, status and/or track record suggest they have a good chance of recovering.
He accepts that many recovery stocks won't have strong accounts, but he always wants to be sure that borrowings aren't excessive. He also sees fresh management teams as a definite plus.
By looking at the above factors Maynard aims to reduce risk. Of course, no recovery investment is risk-free. There's always a chance that the company you invest in never recovers. At worst, it could go bankrupt. But if you get it right, the rewards can be good.
Maynard has recommended three recovery plays to Champion Shares readers since the service launched last year, and I'm particularly drawn to a company he recommended in February. You've probably heard of this company as it's had serious problems in recent years, but I think there are now real signs that this business is beginning to recover.
Sign up for a free 30-day trial to Champion Shares, and you can discover the name of this share. You'll also be able to read all of Maynard's other recommendations as well as his next pick as soon as it's published in December. What's more, if you decide to subscribe at the end of the trial, you can join the service at a specially reduced annual rate of £99. So go on, sign up for a trial now!
*Shares in Reuters closed at 95.4p on 12 March, 2003. They closed at 429.4p on 17 February, 2004, a 350% rise.
** The FTSE 100 index closed at 3287 points on 12 March, 2003. On February 17, 2004, it closed at 4461.5 points, a 36% rise.
An earlier version of this article was published in October 2005.
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