The CAN SLIM Investment System

The CAN SLIM Framework

Developed in the 1950s by legendary investor and IBD founder William J O’Neil, CAN SLIM is a mnemonic for a set of criteria for picking growth stocks with momentum. Unlike other approaches that are distilled to a very simple set of quantitative rules, CAN SLIM is a framework that incorporates both quantitative and qualitative factors, and leaves room for subjective interpretation.

Here is what each letter in the acronym stands for:

C urrent quarterly earnings per share

A nnual earnings per share

N ew product, service, or management

S upply and demand

L eader or laggard

I nstitutional sponsorship

M arket direction

That alone doesn’t tell us much. Let’s explore the guidance on each of those subjects and how you can follow through on it in Stock Rover.

Current Quarterly Earnings Per Share (EPS)

The current quarter’s EPS should have grown sharply compared to the same quarter in the previous year, at least 18% Y/Y growth. Several sources suggested 25% as the minimum, with even significantly higher increases being desirable as well. Checking the EPS against cash flow is a good way to ensure that the EPS numbers are high quality. If the EPS growth strongly exceeds cash flow growth, you would want to investigate that difference further. An easy place to check this in Stock Rover is the Sales & EPS section of the Insight panel’s Detail tab, which includes tables of both EPS and cash flow.

Annual Earnings Per Share

Annual EPS should have increased at an average rate of at least 25% per year over the last 5 years. Like the ‘C’ criterion above, this creates another high quantitative bar to clear. Use the EPS 5-Year Avg (%) metric for this, which you can find in Stock Rover as a column in the Growth View of the Table, or in the Summary tab of the Insight panel (under the Growth subsection).

New Product, Service, or Management

This is the story factor. Basically, does the company give you a good reason to believe it will continue to grow? This requires qualitative research into the company’s news, earnings transcript, and/or 10K/10Q. Looking at profitability metrics such as the return on assets, ROIC, and operating margins over time can also provide insight into the quality of the management team.

When these top three criteria align (growth + story), institutional investors are attracted, which can facilitate the next set of criteria.

Supply and Demand

As investors demand a limited supply of stock, the price goes up. This basic economic principle suggests that firms with fewer shares outstanding have greater potential for strong price gains. Accordingly, large cap firms with more shares outstanding require higher demand to move the needle, so to speak. O’Neil found that 95% of companies displaying the strongest price gains had fewer than 25 million shares outstanding at the time the gains were realized. This would generally put you in small or mid cap territory. There is a Shares column in Stock Rover for the diluted number of shares outstanding in the Table Profile view. There is also a Shares Available (a.k.a. float) column that can be added to any view. This column provides a more conservative estimate of the supply because it excludes convertible securities and options.

Institutional investment is considered an important factor to achieve big price gains because institutions buy in bulk, and often in multiple lots over time, which can have a strong effect on price. Demand from institutional investors plus a limited share supply is a potent combination for large price movements. Use the Institutional Ownership % metric to see what percentage of a company’s outstanding shares are owned by institutions. To see the number of different institutional holders go to the Insight Panel Summary tab, scroll down to Research Links (the last subsection) and select Yahoo Insider Transactions for the detail. Note that many institutional investors are restricted to investing in large caps only, but as we’ll see with the example later in this post, small and mid caps can still attract a lot of institutional sponsorship.

The takeaway from the ‘S’ criterion is to use the laws of supply and demand to increase your chances of sharp price gains. Be careful with this one, however, because the same laws that can lead to sharp gains can also lead to sharp losses.

Leader or Laggard

Is your stock an industry leader, or is it a laggard? Not surprisingly, you want the former. In CAN SLIM, this is actually more of a momentum criterion than a question of fundamentals. The recommendations are for a relative strength index (RSI) of greater than 69 and a current price that is within 15% of the 52-week high. These will lead you to momentum stocks that are likely outperforming peers. You can also look for outperforming stocks in outperforming industries using Returns vs. Industry and Returns vs. S&P 500 metrics or charting against the industry and S&P 500.

Institutional Sponsorship

Also known as institutional ownership, this means ownership of a stock by mutual funds, banks, pension funds and other large institutions. As described above, this is an important factor for creating price support and sustained momentum (this page offers more detail on that point). Look for companies that have strong institutional ownership, without being dominated or “over-owned” by them. The precise guidance on how much institutional ownership is desirable varies. A safe bet is to look for a minimum of 10 different institutional owners (a low bar), preferably owners that have a strong performance track record. We did not find an agreed-upon range for institutional ownership as a percentage of total ownership. In the CAN SLIM screener available in the Library, we stipulated a minimum of 35%, with no maximum.

Market Direction

3 out of 4 stocks tend to follow the general market pattern, so you want to be swimming with the current, or running with the herd, as it were, in a bull market. In other words, look to buy on market uptrends. But you want to go a little deeper than that: is the market in a “confirmed uptrend,” an “uptrend under pressure,” or a “market in correction”? A confirmed uptrend is the ideal time to buy, whereas you want to be much more cautious in the latter two scenarios. You can understand market cycles and the macro environment by charting the major indices, following major market news, observing valuation trends, and by consulting the economic indicators reviewed here. If valuations are running high, it might suggest that the market is due for a correction.

What’s Missing

As you can see, CAN SLIM is more than just a set of quantitative rules—it requires context and research to help you identify what stocks are poised to soar.

But notice what’s missing from the CAN SLIM criteria: valuation. The growth and momentum stocks that meet the above criteria could very well be trading at high multiples. However, O’Neil is not concerned about paying a high premium for a stock that meets his criteria. If you are a value investor at heart, CAN SLIM is probably not for you.

Exit Strategy

Although not spelled out in the acronym, O’Neil’s selling philosophy is to sell after achieving 20-25% profit on a stock. You can then compound those gains by investing in another stock on an upward trajectory. O’Neil says, “the secret is to hop off the elevator on one of the floors on the way up and not ride it back down again.” So while you may be leaving some profit on the table by selling a stock before it has reached the end of its run, you are also less likely to hit a downward price correction. And if you follow the CAN SLIM guidance, you would still achieve those gains (in fact, compound them), just on a different stock.

There is an exception, called the 8-Week Hold Rule, wherein you hold a stock for at least 8 weeks if it hits its 20% mark in the first 3 weeks. This should only be applied to “true market leaders,” companies with strong fundamentals that meet the CAN SLIM criteria. The rule is designed to help you stay strong through a likely sell-off at some point after the initial sharp gain, on the idea that a leading stock will break through to further gains after the sell-off.

O’Neil’s time-tested strategy for compounding profits is very compelling, although it is clear that proper execution requires discipline and vigilance. Additionally, one possible drawback we see to what could be fairly frequent buy-sell cycles with CAN SLIM (compared with buy-and-hold strategies) is the potential to create more gains taxed at the short-term capital gains rate, rather than the lower long-term gains rate.

Can You CAN SLIM?

Now let’s attempt to find a stock that passes CAN SLIM muster. Stock Rover has three different CAN SLIM screeners in the Investor Library. For Premium Plus users there is a CAN SLIM screener and a CAN SLIM – less restrictive screener. The latter only requires annualized EPS growth 15% or greater over a 5 year period, rather than 25%, which is how the regular CAN SLIM screener works. The reason is to simply pass more companies, as 25% EPS growth sustained for 5 years is a high bar to pass, which can result in a screener that produces very few passing stocks.

There is also CAN SLIM Basic screener which works for Essentials and Premium users as well as Premium Plus users. Since equations in screeners is a Premium Plus only feature, this screener drops the one equation that is in the other CAN SLIM screeners: that EPS in the current quarter is higher by 18% or more than the same quarter last year.

CAN SLIM Screeners

The CAN SLIM screener filters for stocks that have at least 25% average growth in the last 5 years. Quarterly earnings from the most recent quarter (MRQ, above) must be at least 18% higher than that of 4 quarters ago. Institutional ownership must be at least 10% (note that the version of this screener in the Library has a minimum institutional ownership of 35%). The price must be within 15% of its 52-week high. The RSI must be above 69 and the number of shares available must be at least 10 million. While it would be possible to add more filter criteria based on CAN SLIM—for example, capping the number of shares available at 50 million—the screener is already very restrictive.

So what does the CAN SLIM screener produce? Well as of July 1st 2019, the screenshot below shows that only eights stocks passed the CAN SLIM screener. The passing stocks are displayed in the Stock Rover Table using the new CAN SLIM View, which can also be downloaded from the investor’s library.

CAN SLIM Passing Stocks

If we run the less restrictive version of the CAN SLIM screener, we jump from 8 to 20 stocks as shown in the screenshot below.

CAN SLIM Less Restrictive Passing Stocks

If we focus on the eight stocks that pass the CAN SLIM screener, we can see that 6 of them have relatively small numbers of shares compared to two much larger companies, Boston Scientific (BSX) and General Motors (GM). The “S” in CAN SLIM is for supply and demand. William O’Neil’s preferred stocks with fewer shares so the supply demand equation would work in the investor’s favor.

Let’s select John Bean Technologies (JBT) which has a relatively small share pool of 32 million diluted shares. This is a company I never heard of prior to writing this blog post, so I will learn along with you how it checks out on the CAN SLIM framework. Let’s begin our exploration by looking at EPS and Sales growth over the last 5 years. We can switch to the Insight Panel EPS tab to get a good read on this as shown in the screenshot below.

John Bean Technologies Sales, EPS and Cash Flow Growth

John Bean Technologies EPS Growth

The chart looks promising. Here is the same data in tabular form

John Bean Technologies Sales, EPS and Cash Flow Growth (tabular form)

John Bean Technologies EPS Growth

We can see from the table above that JBT has grown its EPS from $1.04 a share in 2014 to $3.27 in 2018, and it is estimated to grow further to $4.54 in 2019. This is extremely impressive EPS growth.

However there is a fly in the ointment, as we look at the growth, we see that cash flow growth is lagging earnings growth, and in fact has recently turned down. We will briefly investigate this as it points to a concern about the quality of the earnings growth.

Below is a screenshot of JBT’s Cash Flow Statement for the last five years. We can see that the Cash Flow under performance vs. Earnings is due to acquisition activity. As, we will see later, this is a core strategy for growth for the company, so this is not unexpected or necessarily bad. Based on this, additional things we would want to investigate would first be the level of debt created by the acquisitions. Is it excessive, and can they service it easily? We would also want to investigate the company’s efficiency at integrating prior acquisitions. Are they good at it?

John Bean Technologies Cash Flow

Let’s turn our attention to Quarterly EPS. The Quarterly EPS details can be found in a tool tip that is activated when you hover over the Quarterly EPS table column as shown below.

John Bean Technologies Quarterly EPS Growth

We can see here on a quarter by quarter basis, there is wide variation in the growth story. However in general the Q over Q growth is large, and in all six quarters considered, EPS is growing. This more than satisfies CAN SLIM.

So we’ve got the C and A parts of CAN SLIM covered. Let’s dive into the N: new product, service, or management. Or, what is John Bean Technologies doing to grow?

For this I would look at JBT news and analysis, its Investor Relations page, its most recent earnings transcript, and/or its 10K for anything that tells us about its growth strategy.

A quick perusal of the documents reveals that John Bean Technologies is involved in technology to automate food and beverage preparation, which is an industry beset with labor shortages and strong organic growth opportunities from organic food growth (no pun intended). They also grow inorganically via an active acquisition strategy. Finally they say a high percentage of their business is from consumables to their installed base, which they expect to grow significantly in the future. So on the surface, it seems like a good story.

Let’s take a looks at how the company has performed over the last 10 years from a capital efficiency and operating margin point of view

John Bean Technologies Efficiency

In general things are definitely improving. The capital efficiency numbers are mixed, the absolute numbers are good, but with some significant variation year to year. The margin improvement over time is more consistent and indicates that management seems to know what they are doing as far as improving the operating performance of the company. A good sign.

For the purpose of this article, let’s say the N has been satisfied by this information. We know that  JBT is growing organically via internal product development and acquisition, and that the management team seems to be focused on improving operating efficiency, which is borne out in the numbers. And their addressable market is robust and growing. All good. However, if I were to actually invest in this company, I would spend more time digging into sources to determine if the growth strategy, competitive positioning and management team are all sound.

Let’s move onto the S, supply and demand. JBT has 33 million shares outstanding, a number which has only slightly increased in the last 10 years from 29 million. This number is only slightly above the 25 million number that O’Neil tested, but it’s still much lower than a typical mid or large cap stock.

John Bean Technologies Outstanding Shares

For insight into the demand for those 33 million shares, we can compare price movement to daily trading volume. This is a 3-month candlesticks chart with daily volume tracked below:

John Bean Technologies Chart

We’re seeing generally consistent volumes overall, but more volume on up days than down day as the stock has been rising. This is a good sign, suggesting there is excess demand for this stock as its price rises.

L: Is JBT a leader or laggard? The screener already did most of the work for us on this one, having filtered for companies for an RSI greater than 69 and stocks within 15% of their 52-week high. JBT is at 69.3 on the RSI at the time of writing and at 97.8% of its 52-week high.

If I compare its returns to its industry and the S&P 500, I see further evidence of leadership. The stock (blue line) greatly outperformed the S&P 500 (red line) and its industry (green line) over the last six months as seen below.

John Bean Technologies vs. Benchmarks

I: Institutional sponsorship. JBT’s shares are 85.3% owned by institutions. We can see how many, and who the top holders are, by going to the Insight Panel Summary tab, scrolling down to Research Links (the last subsection) and selecting Yahoo Insider Transactions. The number of institutions is called out below, and the top four institutional holders are listed below that.

John Bean Technologies  Institutional Holders

458 different institutions own JBT, and the top major holders are well-known institutions with good reputations. So all good there.

Finally onto M, market direction—many argue this is the most important element of CAN SLIM. What is the market trend?

Here’s a 1-year chart of the S&P 500, with its 50-day and 150-day simple moving averages:

S&P 500 Chart

We have clearly been in an uptrend since the beginning of the year, with the SMAs making a bullish crossover in March. This is a positive sign for investing according to CAN SLIM.

Does JBT Fit the Bill?

We found John Bean Technologies through a screener that was designed to find stocks with the CAN SLIM level of earnings growth and momentum. In addition to its high earnings growth, both the company’s story at a glance and the level of institutional sponsorship support it as a potential CAN SLIM pick.

Market direction is a critical component of the CAN SLIM calculus. The market is in an uptrend, and supportive of continued gains, but there are rumors of slowing corporate profit growth, which may put the market uptrend under pressure. This in turn means that any investment warrants a little extra scrutiny, as most stocks move with the market. So if the market is due for a correction soon, most stocks will succumb. This may be cause for concern.

Ultimately, the CAN SLIM process as we’ve interpreted it here does not lead to a simple yea-or-nay decision. Those who feel that the market is still going to rise for some time would probably be more inclined to a yea vote, given that almost all other aspects of John Bean Technologies fall in line with CAN SLIM (at least assuming that further investigation into the company story adds to its strength). Those who are wary of the market’s high valuation might sit out for a bit longer, even if they feel that JBT as an individual pick is strong.

What do you think about the CAN SLIM framework? Have you tried it and met with success?




Comments

I have been an enthusiast for CANSLIM ever since the early 1960’s. In fact I read O’Neil’s book about it.
However your clinical analysis, and thoughtful illustration is brilliant.
When I started with Stock Rover I kind of sensed that there was a CANSLIM “common link” and now the true power of your APP is clear.
In your essay, I especially appreciated the comments relative to selling philosophy and exit strategy. Thank you so much.

CANLISM is a good screener to find growth stocks. However, how do we backtest it? Where can we find evidence that it works?

Good question. Back testing the CAN SLIM methodology would be very tricky because of the “softer factors” such as market direction and new products or service in the past. It would take a lot of manual work.

Another approach is to create a virtual portfolio of CAN SLIM stocks now and see how they perform going forward, allowing the passage of time to act as a back test. Less work, but you have to see how the performance unfolds.

Leave a Reply

Your email address will not be published. Required fields are marked *

We value your privacy and will not display or share your email address

This site uses Akismet to reduce spam. Learn how your comment data is processed.




Top