The Ultimate 7-Step Guide to Screen Top Stocks

With over 58,200 listed companies in the world, diving into the stock market can feel a bit like wandering through a gigantic shopping mall with no map or trying to choose the perfect pizza topping from a menu with endless options. Confusing, right? Well, do not worry because I am here to grant your wish for clarity and confidence. 🧞

Just as you apply filters when shopping for clothes or scrolling through dating profiles (swipe left, swipe right), we're going to use similar principles to find your ideal stocks.

In this article, I will break down the stock screening process into 7 simple steps tailored to your comfort and risk tolerance. So…

Step 1: Start by using a guide and filter companies by their Market Capitalisation

I'll be using Ticker by Finology's Screener tool. If you're in a hurry (or just a fan of convenience), click right here, and voila, you're in!

Once you're in the tool, you'll spot the Query box – that's where you need to give the inputs. If you're the type who likes a roadmap, there's a handy Usage Guide available to light the way.

To make things even better, Ticker has prepared some sample screens for you to test out. Don't miss the chance to give them a go! 

Now, let's kick things off. My personal style is to skip the microcaps and set my sights on companies with a market value of at least ₹10,000 crore. So, my very first query looks like this: “MCAP>10,000 AND”

Step 2: Next, sort companies based on their sales figures.

I want to make sure the companies I'm looking at have been on a growth spurt, with a minimum revenue increase of 6%. This matches up with our country's GDP growth rate, and I also want to see consistent sales growth over the past 5 years, hitting that 7% mark.

Now, I know this can be a bit subjective, as everyone has their unique preferences. So, to set this criterion, I'll type in "Net sales 5yr CAGR>7".

Step 3: Examine the profit growth of these companies.

Additionally, I'm not just stopping at revenue growth; I also want to see a hearty 5-year profit growth of over 10%. Why, you ask? 

Well, consider this: India's 10-year Government Securities (GSecs) typically yield around 7% annually. As an investor, I'm taking a bit of a risk by choosing stocks over the safer GSecs, so I'm setting the bar at a 10% profit growth, which means it should outshine the GSec yield by more than 3%. 

Now, remember, this part is again a tad subjective, as it can vary from one investor's perspective to another's. To set this criterion, I'll simply type "Net Profit 5yr CAGR > 10". After all, who doesn't want their investments to outperform the average?

Step 4:  Consider the Return on Equity (ROE) to gauge how well the company is using its equity to generate profits.

As an investor, I've got a thing for companies that excel in using their capital efficiently. I have a particular fondness for those who can maintain a steady Return on Equity (ROE) growth rate of at least 17-18%. It's all about making every rupee work harder.

If you're not familiar with ROE's role in investing, give "How Important is ROE for Investors?" a read to get up to speed. 🤓

So, to pinpoint these top performers, I'm simply typing in "ROE 5yr Avg > 17" – because, in my book, sustainable and efficient growth is the name of the game!

Step 5:  Evaluate the company's assets and debt to understand its financial health.

Now, we've got the growth factors sorted, but we can't overlook a company's financial health. So, we're adding two more criteria:

1. Current Ratio Y1 > 1

This ratio tells us if the company has more short-term assets than short-term debts, which is a good sign for its financial health.

2. Debt to Equity Y1 < 1

We're also making sure the company isn't drowning in debt compared to its own money (equity), keeping things balanced.

After all this careful screening, we're definitely not willing to pay any price for just any company. That's not our game plan. So, what's the next move?

Step 6: Assess the growth prospects of the company. 

Now, let's talk about the Price/Earnings (P/E) ratio, but here's the twist. Think of the P/E ratio as the secret sauce on a pizza; it's that essential ingredient that reveals a lot about a company. 

And if this concept is new to you, it's time to dig in and read: Why is Price to Earnings (P/E) Ratio important for Company Analysis?

Fast-growing companies often have higher P/E ratios, while slower ones have lower P/E ratios. The trick here is to find the right balance and not overpay for a stock.

To do that, I am introducing the Price/ Earnings-to-Growth (PEG) Ratio, a handy sidekick. I'm setting a limit- I won't pay more than 1.5 times the P/E ratio compared to earnings growth. This way, I'm making sure I'm not shelling out too much for growth.

So, here's the added query 👇

And…

You are done! 🥳 Run the query and see…

After our thorough screening process, we've managed to trim down the selection to approximately 44 promising companies from the vast world of stocks. 

But here's the real question: now that you've got these gems, are you thinking about going all-in with your investments? If your answer was a resounding "Yes," then STOP!!

And now, we arrive at the last and most critical step.

Step 7: Lastly, proceed with caution, being mindful of potential risks or uncertainties.

It's time for a comprehensive analysis of these selected companies. Here's what it involves:

1. Thoroughly studying all three financial statements: This means diving into the company's balance sheet, income statement, and cash flow statement, dissecting the numbers. To help you with it you can refer to A Straightforward Guide to Financial Statements.

2. Delving into the management discussion and analysis from the annual report: This is like getting a backstage pass to the company's inner workings. You'll gain insights into how the management views the company and its sector. Check: How to evaluate the Management of a company before Investing?

And that's it, you've reached the finish line!

The Bottom Line

The key to successful stock screening is a blend of precision and strategy. By meticulously choosing your screening criteria and performing comprehensive analysis, you can confidently navigate the world of stocks and make informed investment decisions. 

Happy investing!