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4 Ways to Beat the Market Now

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The election is now behind us. And as is typical, stocks rallied once this cloud of uncertainty was lifted. Even better, we as investors can start looking past the government to the real drivers of the economy and stock market profits.

On that front you have an improving economy (+2.9% Q3 GDP Growth) + low rate environment = extension of bull market.

However we are now winding around to the 8th year anniversary for this bull market. That's the second longest in history. Unfortunately it also means that the easy money has already been made and valuations are near fully engorged.

When you add it all up it says the bull market is still on. Just that the pace of gains is slowing down to around 5% per year...10% if you are lucky.

To be clear, these modest gains are the likely outcome if you stick with most mutual funds or index investing. Gladly there are proven strategies that can help you select better stocks and handily beat the market.

Below I share with you the 4 essential ingredients for selecting the best stocks at this time. I truly believe that following these strategies can lead to doubling, even tripling, the average market return.

Ingredient #1: growth, Growth, GROWTH!

Defensive investments outperformed for all of 2015 and the first half of 2016. That boring investment party is now over. No longer should you focus on the safest of safe stocks. The way to outperformance is by finding companies that are experiencing exceptional growth.

On the surface it sounds like I am just saying to buy those companies experiencing the highest % year over year growth. However, quite often those are risky stocks that are severely overpriced.

Instead I am saying to buy sound companies experiencing above trend earnings growth that will drive EPS and share price appreciation in the future. When trend = only 3-5% earnings growth, then even 10% annual EPS gains is impressive.

On top of that seek companies where earnings estimates are on the rise...which as you know is the foundation of the Zacks Rank and its 26% average annual return. That's because these are the companies with the best growth prospects, which is a beacon signaling other investors towards the shares. So focus on Zacks Rank #1 and #2 buy rated stocks.

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Ingredient #2: Go Small or Go Home

This one goes hand in hand with Ingredient #1 above. The Flight to Safety movement the past two years also meant outperformance for large cap stocks.

Now those ultra-conservative names are played out and small caps and mid caps are starting to win the day. This trend should continue given all the ground they need to make up from the past couple years of underperformance.

Yes, these smaller stocks are generally riskier. That is why you should consider having more stocks in your portfolio, each with a smaller allocation. This form of diversification also helps mitigate risk so you can enjoy greater rewards.

Ingredient #3: Avoid Interest Rate Sensitive Stocks

After hitting historic lows...interest rates are finally back on the rise and likely to stay on the rise given statements by the Fed. This will hurt all stock groups that benefited from low rates. Namely income stocks whose ONLY appeal is their high dividends (Ex. Utilities, REITs, MLPs etc).

This problem will also extend to growth and income stocks in stable/defensive industries. Too much of their past appeal came from above average dividends and not enough from real earnings growth. These stocks will lag as rates go higher.

What is not as obvious to investors is how this effects industries that rely on low rates to sell more of their product. Automobiles and home construction are ones that come to mind. The higher rates go...the higher the financing costs...the more expensive their products become...the less they will likely sell. That is not a serious problem for their business models at this stage, but as the trend continues it will be an impediment that harms profits and share prices.

Ingredient #4: Value

It never hurts to buy stocks at a discount to their peers. The problem is that most investors have a set of historical standards for what they believe equates to a value stock. I am referring to certain measures of PE or Book Value or PEG etc. that typically denote an undervalued security.

Unfortunately, 7.5 years into a bull market you will discover that most every stock is above those levels. Thus, those looking for absolute value based on these historical measures will find no stocks in their basket. So the key is to use relative value measures to squeeze out additional gains. That is where the Zacks Value Score comes into play.

For example, our "A" rated value stocks are in the top 20% in terms of the value criteria that have been proven to lead to outperformance. Combine that with "B" rated stocks and you will be focused on the top 40% of value stocks available. These stocks should make up the bulk of your portfolio. And yes, do strongly consider selling those with D or F ratings for this important criteria as they will prove to be a drag on your portfolio.

Where to Find the Trades that Are Best for You

The above ingredients will get you on the right track. However, in a world with over 10,000 stocks to choose from, far too many will seem to fit the bill.

That may be fine if you are a professional investor with 60-80 hours per week to focus on researching the full list. For the rest of you, it's usually better to start by looking at recommendations from professionals with strategies and a track record you can trust.

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What a great time for this opportunity! A major post-election bounce and a retail stock surge for the holidays may be in play.

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Steve Reitmeister has been with Zacks since 1999 and currently serves as the Executive Vice President in charge of and all of its portfolio services and research tools for individual investors. Today he is pleased to offer all the private buys and sells through 7-day free access to Zacks Ultimate.

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