Expert: Steve Hach - 8/24/2007

Question
Hi i find small cap (penny, otc and pink sheet) stocks appealing but how do you go about finding relevant info to judge if the stock is worthy of the investment, I keep seeing N/A for the info i'm looking for and lastly what would you consider to be the basic tenets to look for in any stock be they large or small cap. Charts are another thing, from candlestick to macd, elliot etc. etc. I know its all relative but what do you find to be most productive.

Answer
Tony,

The lack of data on small caps and penny stocks are a major reason we do not track a lot of them at my firm.  We use quantitative modeling to calculate valuation and the small caps often do not have the performance data we need to run our models.

In fact, for most of our clients the first thing we do is set up our strategy to eliminate the smaller end of the universe.  It is true that the penny stocks might provide huge gains relative to the investment made but we typically find that over time screening out the bottom will not reduce returns that much when compared to the huge decreases in volatility that can be garnered.  

You also have issues with liquidity with the small caps that are not an issue with safer, larger companies.

When picking a stock, we focus on a variety of factors that include P/E ratio, momentum, valuation relative to other stocks, EPS, etc.  We have a computer model that crunches around 14 variables for each company.  We tend to stick with companies that have market caps of $500 million to 1 billion dollars share prices of $5 or more, and volume of @100,000 shares for our trading strategies.  The models, of course do most of the "grunt" work for us.

Since we are a quant shop, we do not "do" technical analysis charting of any sort.  Our fund manager will use charts to narrow down the picks for our portfolios--also, we recently began testing some theories for portfolio weighting based on moving averages and such.

Hope this helps,

Steve