Integrating the Zacks Rank into Investment Strategies
The Zacks Rank works well with all investment strategies, and can even help improve performance. Here are suggestions on how to use the Zacks Rank with growth, value, buy and hold, and momentum/short-term strategies.
Growth investors are generally more aggressive in nature. They are looking for companies with high earnings growth potential, which should propel their stock price in the future.
By concentrating on Zacks #1 Rank stocks, growth investors can easily screen for companies exhibiting these stellar growth rates. The best part of the Zacks Rank is its ability to alert investors, at the earliest stages, that a company's prospects are looking very bright. And getting in early on an emerging growth story generally leads to strong investment returns. Just as importantly, the Zacks Rank notifies investors at the first signs of weakness (Zacks Rank of #4 or #5), providing the opportunity to lock-in profits and avoid unnecessary losses.
Value investors seek out stocks selling at prices below "fair value". Many value investors rely on earnings measures like the P/E (price/earnings) multiple or the PEG ratio (PE divided by growth rate) to determine whether a stock is trading at an attractive valuation.
The key for value investors is earnings, which is the basis of most valuation models. When the Zacks Rank signals a "strong buy" or "buy" (#1 or #2), earnings estimates for a stock are rising. Given this new information, other investors will likely view the stock as being undervalued relative to its future prospects. So, they jump in to run up the price of the stock. The beauty of the Zacks Rank is that it is also a timeliness indicator, meaning that value investors can use it to identify precisely when company's prospects are beginning to improve as opposed to waiting and waiting for business conditions to improve.
Value investors should plan on holding onto a stock as long as its Zacks Rank remains #3 or higher, and other characteristics remain attractive, to maximize the upside returns.
Buy and Hold/Long-Term Investing
Investors following a buy-and-hold strategy seek to limit portfolio turnover by holding onto a stock for a year or longer. They seek a company of value and virtue, which they believe will consistently report solid earnings that will continue to push the share price ever higher. The key ingredients for a buy-and-hold investor are the fundamentals such as earnings growth, strong management/leadership, excellent products, and competitive strategy.
What is the most tangible proof that a company is worth holding for the long-term? Earnings and earnings growth. A company that has strong management and excellent products should be producing a steady stream of positive Earnings Estimate Revisions. Here again earnings estimate revisions are the cornerstone of the Zacks Rank. Whenever you find positive earnings revisions, you will generally find a company moving in the right direction that is a candidate for long-term ownership. Therefore, buy-and-hold investors should seek out attractively priced Zacks #1 or Zacks #2 Rank stocks. A decline in the Zacks Rank to #4 or #5 can be an early warning that business conditions are worsening and therefore that it is time to take profits.
The Zacks Rank is the best friend to folks who rely on technical analysis and momentum because it can tip them off before most other systems. Rather than simply looking for price trends, the Zacks Rank is about "cause and effect". The cause of the move is positive revisions in earnings estimates. This upward shift in earnings estimates prompts more and more investors to take an interest in the company with the effect being that the shares in the company start on a bull run. Volume increases, as does the stock price.
Simply relying on technical analysis often doesn't alert investors until after the move has already begun, costing active traders opportunities to maximize profits. Conversely, by focusing on Earnings Estimate Revisions, the Zacks Rank alerts can identify stocks that are likely to move upward in the future - before the breakout has occurred! In other words, the Zacks Rank helps traders get in ahead of the action. (To see why this is the case, reread Step 4 of "Zacks Rank in Action - What Causes Stocks to Rise").
Momentum and Technical Analysis investors should concentrate on Zacks #1 Rank stocks with the intention of selling any stock that drops to Zacks Rank #2 or lower.
"I pay a lot of attention to sell recommendations from Zacks to dump stocks before they go bad."
LeRoy L. Lynn
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Zacks Rank Guide Table of Contents
(A version of this guide formatted for printing is also available.)