Wednesday's Biggest Stock Stars

Hey there, Fools. I've summoned our Motley Fool CAPS community once again, to highlight Wednesday's biggest gainers among the stocks with a top rating of five stars.

Without further ado:

There's a simple reason I selected the largest five-star gainers, as opposed to other big-name winners making noise on Wednesday, like one-star homebuilders Beazer Homes (NYSE: BZH) and Hovnanian Enterprises. Stocks go up all the time, but unless you were able to predict the pop, what does it matter?   

Our community of more than 82,000 CAPS Fools considers its five-star stocks the most likely to outperform the market. So far, CAPS has indeed proved its market-beating prowess: Over the past year, top-rated stocks have returned roughly 28%.

Written in the (five) stars?
For example, two-time Motley Fool Hidden Gems recommendation Portfolio Recovery Associates has had nearly 700 CAPS All-Stars give the stock an outperform rating. In fact, just last November, my Foolish colleague Jim Gillies made a compelling case that the company -- which purchases and manages defaulted consumer debt -- was selling at a bargain-basement price.      

This outperform pitch -- by CAPS player ihacvet just three days ago -- gives us some additional insight into our Foolish community's thought process:  

There should be more business than PRAA can shake a stick at with the current economic situation. And this should give them the opportunity to be more selective as to whom they will do business with. I see a strong "recovery" for PRAA later this year and believe they are undervalued.

Portfolio Recovery has already risen by 26% since that call. 

The bullish takeaway? Always act like an owner. Just like the great Warren Buffett advises, it's best to buy into a business when it can fully capitalize on surrounding distressed market conditions. And if you can gain access at a cheap price to boot, there's a good chance your investment will turn out to be a winner.

And now for the losers ...
Of course, winning isn't everything in the stock market.

Here are Wednesday's biggest one-star decliners.   

One-star stocks inspire the least confidence from our CAPS players. So while yesterday's drop in five-star stock Foster Wheeler (Nasdaq: FWLT) may have caught our community off guard, one-star stocks are fully expected to fall hard. Over the past year, CAPS' lowest-rated stocks dropped by an average of 16.6%.

Did CAPS call the fall?
Take, for instance, a Palm Harbor Homes bear call from CAPS All-Star and fellow Fool Rich Smith (a.k.a. TMFDitty), from September 2006. According to Rich, "Negative operating cash flow for three years straight, a weakening balance sheet, and an economy heading south -- led by the housing sector, no less -- spells troubled water at Palm Harbor."

Shares of the Texas-based producer of factory-built homes have fallen 45% since that pitch. In fact, yesterday's plunge came after the company reported a wider-than-expected third-quarter loss, with sales continuing to slide in the housing downturn -- just as Rich had predicted back in 2006.

The bearish lesson? Always follow the cash flow. Investing, after all, is about putting money up front today so you can get more of it in return tomorrow. If a company bleeds cash and, worse yet, has few prospects for future cash-flow production, chances are you won't see a return of your capital, much less a return on your capital.

The final Foolish move
Investors often focus strictly on stock-price movements (or the results), without realizing that developing a proper stock-picking process counts the most.

Over at Motley Fool CAPS, thousands of investors are Foolishly sharing insightful investment tips to help identify tomorrow's big movers. Over time, consistently reverse-engineering winning -- and losing -- stocks will help you become a more Foolish investor.

Log in to CAPS today, and start participating. It's absolutely free -- and a lot of fun!