QUALIPORT
Seven Good Shares

By Bruce Jackson (TMFGoogly)
June 13, 2002

Note the headline for this article says "good shares" and not "great shares". The latter, in my view, require superb skill and judgement topped with a fair degree of luck. As for me, I posses little of the aforementioned required brain power, and I can't afford rely on luck to see me through to a comfortable retirement.

What's the definition of a "good share"? When I was running the Qualiport, and doing a pretty poor job of it I must add, I was aiming for 15% annualised returns on my investments. With inflation and interest rates now at record lows, these days a 10% annualised return would be considered "good". Warren Buffett expects the US stock market to rise between 7% and 8% per annum over the next decade or so. If you returned 10% per annum, that would require you to out-perform the market by between 25% and 43%, some achievement, and an achievement I'd be happy to call "good".

Looking For Good Investments

The Financial Times newspaper is my favourite place for looking for "good shares". I turn to the "New 52 Week Highs And Lows" section of the paper and scour the "New Lows", looking for familiar companies in familiar sectors. There are a few reasons why a company is hitting a new 12 month low...

1. It's just a bad company

There are plenty of these companies consistently making the list. How do you define a bad company? Take a look at what they do, their past growth record, their debt levels, their dividend yield, even their share price (many are penny shares). You'll soon realise they are just bad! Avoid these like the plague.

2. It has recently issued a profit warning, or released some bad news

I have a love/hate relationship with profit warnings. Generally I love them, because in most cases, I don't own shares in the company issuing the profit warning. But, I generally hate them when they inevitably happen to the companies I do own shares in.

Profit warnings sometimes create buying opportunities. The share price is usually punished, and justifiably so. But, profit warnings usually relate to relatively short-term time periods. If you have the ability to look beyond the next 6-12 months, and 3-5 years into the future, you may find yourself a bargain. However, beware the company whose profit warning is the precursor to more and more profit warnings over the years as their business continues to deteriorate.

Possible buying examples -> IG Group (LSE: IGI), Logica (LSE: LOG) and GlaxoSmithKline (LSE: GSK)

3. Company specific news is dragging down the rest of the companies in the sector

A profit warning from a company in the retail sector, for example, will often see the share prices of other retailers dragged down with it, sometimes justifiably so. If one retailer is seeing slowing sales, the chances are that others are seeing similar trends.

But sometimes, a profit warning is company specific. The recent Abbey National (LSE: ANL) profit warning is a possible example. It looks to be a company specific problem, yet the rest of the banking sector and life assurance sectors have been dragged down with Abbey. That may present investment opportunities in otherwise solid companies.

Possible buying examples -> Legal & General (LSE: LGEN), Prudential (LSE: PRU) and Lloyds TSB (LSE: LLOY).

4. No reason

This is very rare. There usually is a reason why a share price is hitting a 52 week low, even if you can't see it now. Be wary. Be afraid. Be very cautious. Be vigilant. You just may be looking a gift investment opportunity in the mouth. But, just as likely, you'll be looking at a buck toothed monster who is ready to gobble up you and your money!

Possible buying example -> PizzaExpress (LSE: PIZ)

Picking "Good" Shares

Share picking is far from easy. There are many more bad quoted companies than good ones. Picking the wheat from the chaff is very difficult. Some of the example companies mentioned above may turn out to be bad investments rather than "good" investments. It happens. Not every investment will be a winner.

Scouring the 52 week lows list can increase your odds of success. You want to be looking for companies going through temporary problems, snapping them up when they are relatively cheap. The companies mentioned above as possible buying examples are priced on prospective price-to-earnings ratios (P/E) of between 11 and 16 (GlaxoSmithKline being on a prospective P/E of 16), making them, on the surface, look relatively cheap.

The Qualiport aims to buy good companies when their free-cashflow yield is at least 7.5%. That implies a P/E of about 13 (1 divided by 7.5%), a range most of the example companies fall within. The Qualiport isn't about to rush out and buy and of these companies, but they are companies that could potentially fly into the watchlist radar.

None of the above examples are recommendations to buy for your own portfolio. Please do your own homework, make your own investment decisions. Blame yourself when your share picks are bad and praise yourself when your share picks are good. But, whatever you do, put the odds in your favour by buying cheap shares.

Of the companies mentioned in this article, Bruce Jackson owns Lloyds TSB and PizzaExpress.