“Where you want to be is always in control, never wishing, always trading, and always, first and foremost protecting your butt.” – Paul Tudor Jones

Things can change quickly in the stock market.

The beginning of the year is a good time to evaluate price movement and underlying market direction. It’s a time where traders should be focused not on offense, but on defense and playing things slowly. It’s the first inning of a twelve inning stretch. There’s no need to rush; rather, let the decisions come easy and focus on avoiding any major mistakes at this point in the game.

With every year comes a different market theme; it’s our job to identify that theme as early as possible and position our portfolios to benefit from it. And while one day certainly doesn’t qualify as enough evidence of a considerable alteration in terms of positioning, yesterday’s market action witnessed a notable shift in sector strength.

We need to be aware of which sectors are showing relative strength; the laggards from last year appear to be leading the charge this year. Technology stocks led the way during the first year of this new bull market, but other pockets have begun to show renewed strength as the rally has broadened out. The health care and financial sectors are hitting 52-week highs on increasing volume; interest rate-sensitive utilities also outperformed on the first trading day of the New Year.

A Simple 3-Step Process to Find Winners

In order to beat the market, we need to own stocks that are outperforming the market. It sounds so simple, but most investors are so caught up with their favorite stocks and fail to separate the wheat from the chaff.

There are hundreds of indicators available to help pick stocks. But in our experience, the more complicated a strategy is, the less likely it will work in the future. A strategy that is easy to learn and has a history of profitability is much more likely to work in actual investing than an overly complicated approach.

Here at Zacks we give you the tools to help identify leading stocks and outperform the market. Our Zacks Industry Rank identifies the top industry groups that contain market leaders, providing a tailwind to your investing success. Our Zacks Rank methodology pinpoints stocks that are witnessing positive earnings estimate revision activity, allowing investors to jump on board before an emerging rally gets underway. And our Zacks Style Scores guide investors to the best opportunities, focusing on stocks that show promising earnings and sales growth as well as favorable momentum and valuation characteristics.

Let’s examine these three triggers in more detail.

Industry Group Association

We can start by detecting leading industry groups. The Zacks Industry Group Rank makes this process easy for investors, classifying industries based on the earnings estimate revisions of the underlying stocks within each industry. If the stocks within a given group are experiencing positive earnings revisions, that industry will receive a higher ranking. Let’s take a look at an example.

The Zacks Medical – Generic Drugs industry is ranked in the top 28% out of approximately 250 industries. Because it is ranked in the top half of all Zacks Ranked Industries, we expect this group to outperform over the next 3 to 6 months. Digging a bit deeper, this industry outperformed over the last year with a 40.6% return.

Quantitative research studies suggest about half of a stock’s future price appreciation is due to its industry grouping. By targeting stocks contained within leading industry groups, we can dramatically improve our odds of success. Also note the favorable characteristics for this group:

Image Source: Zacks Investment Research

Rising Earnings Estimates

Positive earnings estimate revisions are at the heart of the Zacks Rank. Our research shows that rising earnings estimates are the most powerful force impacting stock prices. Only the top 20% of all stocks that are experiencing the most substantial revisions are ranked as either a Zacks Rank #1 (Strong Buy) or Zacks Rank #2 (Buy). Let’s build on our example.

Within the Zacks Medical – Generic Drugs industry, Dr. Reddy’s Laboratories (RDY Quick QuoteRDY - Free Report) is a Zacks Rank #2 (Buy) stock. The integrated pharmaceutical company has witnessed a steady batch of positive earnings estimate revisions as of late. For the current fiscal year, analysts covering RDY have increased their EPS estimates by 1.85% in the past 60 days. The Zacks Consensus Estimate is now $3.86/share, reflecting a potential growth rate of 17% relative to last year. This is the type of trend we want to look for when narrowing down our list of stocks to include in our portfolio.

Image Source: Zacks Investment Research

Dr. Reddy’s Laboratories, a global provider of affordable and innovative medicines, has surpassed earnings estimates in each of the past four quarters. RDY has delivered a trailing four-quarter average earnings beat of 35.3%. Consistently beating earnings estimates is a recipe for success.

Style Score Ratings

RDY stock is ranked favorably by our Zacks Style Scores, with second-best ‘B’ ratings in our Growth and Value categories. This indicates that RDY is likely to head higher based on a favorable combination of earnings and sales growth, as well as enticing valuation prospects. Shares have earned the top ‘A’ mark based our overall VGM score and are off to a good start in 2024 after rising 1.8% yesterday.

Image Source: StockCharts

By focusing on companies that are within leading industry groups, experiencing positive earnings estimate revisions, and that are ranked favorably by our Zacks Style Scores, we can narrow down our list of stocks to those with the best profit potential. Make sure to take advantage of all that Zacks has to offer to uncover top stocks as market leadership shifts in the New Year.