Option Investor
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By David Popper

Last week I mentioned that I have concentrated on 20 stocks and traded these exclusively. Many of you asked me which 20 stocks I traded. I certainly did not mind sharing this information, but I was concerned that people may put too much trust in my selections. You see, I am only a part time trader. I still have a lot to learn. Throughout my learning process, I have tried many strategies trying to find one that fit my style. The process was exciting. I had many highs and lows. Finally I had to honestly evaluate my goals. My goals were consistency, not excitement. Many strategies, which involve taking potentially lucrative positions (buying options) are exciting, but have to be closely monitored. These positions allowed me to win big or lose big. They were certainly exciting, but they were not consistent. Murphy seemed in control. Therefore I continued my search for consistency. Eventually I began to use 1/2 of my account to buy top stocks and write covered calls. I would usually get about 8-10% premium. I would leave 1/2 of my account in cash waiting to buy the dips. This would allow me to profit on downturns as well as upturns. On most, but not all occasions, I would achieve somewhere between a 5-10% return each month. Of course that return isn't achieved each month. Like many of you, I suffered in March and April. My suffering was hedged however because I had a sizable amount in cash in reserve.

Later in the process I learned that the strategy is only as good as my stock selections and technical analysis. The natural question which emerged was how do I find stocks which fit my strategy. I began looking at the OIN selections, the IBD comments, and read literally thousands of news articles, message boards, comments etc. Finally I began to see a consistency in many of the selections. The very best stocks were leaders in the fastest growing sectors of the economy. They were achieving incredible growth each quarter. Most of these stocks were also highly volatile because the stock price is incredibly rich by any traditional standard. These stocks are priced based on speculation of what they can become. When analysts are optimistic, they see the glass as half full and the stock rises. When analysts mention the potential pitfalls, the stocks temporarily tank. In short, the emotional swings keep these stocks volatile. Volatility is dangerous for the option buyer if his purchases aren't precise. Volatility can be a boon to the option seller because volatility increases the option's premium. If the option seller trades at a technically accurate time, the trade becomes safer and the profits increase.

So, how did I find these stocks? I began to use one fundamental measure and one technical measure. The fundamental measure is EPS (earnings per share. In IBD , each company's EPS is listed. IBD measures the EPS by comparing a company's earnings in the two most recent quarters and comparing them to the same two quarters from the year earlier. Then the earnings growth rate for the past 5, 4 and 3 years are evaluated. The results are compared to all other stocks and are rated on a scale of 1 to 99, with 99 being the best. For example if a stock is rated with a 90EPS rating, it outperformed 90% of all other companies in earnings growth. I insist that a stock have at least an 80 EPS. The technical measure that I use is relative strength. IBD measures the stock's price change over the past 12 months and once again compares it with the universe of stocks. If a stock has a 90% RS then it has outperformed 90% of the stocks over the last year. Once again , I insist that a stock have an RS rating of 80 %. Sure, I will miss out on some huge winners but those stocks with high EPS and RS rating usually bounce back after a correction. Some high performers with low EPS or RS do not- remember CMRC?

So here they are, complete with their EPS and RS rating in no particular order:

Stock     EPS     RS     Stock     EPS     RS

JDSU      97      99     INTC      94      87
PMCS      96      97     NT        98      95
CHKP      99      98     EMC       98      93
NTAP      99      99     CSCO      98      86
TQNT      98      95     MERQ      99      95
BRCM      84      96     AMGN      84      89
SUNW      98      91     QLGC      99      84
VRTS      99      95     CMVT      98      89
SEBL      98      97     SFA       91      96
ORCL      99      95     WPI       85      88
Remember, all of these except WPI are tech and are dangerous. The huge swings can leave you underwater temporarily. The danger however is what brings in the premium. The high EPS and RS brings some security. Good luck but please get to know the companies you trade.

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