How to Pick Stocks: Start With the Numbers, but Don’t End There

The Wall Street data crunchers have the advantage when it comes to algorithms and analytics. Your advantages lie elsewhere.

Motley Fool Staff
Motley Fool Staff
Jul 5, 2019 at 1:09PM
Other

As Aesop wrote, "A man is known by the company he keeps." That's a moral that still applies 2,600 years or so later, and in a similar vein, the Rule Breaker Investing podcast should be happy to be judged by its audience -- and the caliber of their questions. Motley Fool co-founder David Gardner is once again tackling those queries in the mailbag episode, and he's received some excellent ones.

In this segment, listener Nate is curious: On his podcasts, Gardner doesn't usually delve too deeply into companies' financial stats. So how much do those ratios and margins matter to the Fools in picking stocks? Plenty, Gardner replies -- but they are just the beginning, and the points that he looks at beyond them can matter more.

To catch full episodes of all The Motley Fool's free podcasts, check out our podcast center. A full transcript follows the video.

This video was recorded on June 26, 2019.

David Gardner: Mailbag item No. 7. Earlier in this podcast, I mentioned talking about numbers and looking at numbers. We were talking about market caps back then. Well, here's Nate from Oakland, California, writing, "Hi, David. I noticed that you, compared to other of your fellow podcast hosts, spend much less time discussing financials or other numbers, except market cap. Perhaps this is only because numbers don't lend themselves to the podcast format as much. I'm curious, as you're evaluating stocks, how much time you spend poring over numbers, financials, and trends compared to how much time you spend researching the market, reading, listening, and watching material from the leadership, reading SEC filings, etc. I feel like I've been slowly developing my own process for evaluating stocks, but I'm wondering what your process is like? Or, does your process depend on the nature of the company you are evaluating? Thanks, Nate from Oakland, California." Thank you, Nate! Thanks for writing in!

Two points I want to make here, Nate. The first one is, yeah, I love numbers! I care a lot about numbers. Every stock that I pick for Rule Breakers and Stock Advisor, I've had one or more analysts, often multiple analysts here at The Motley Fool, vetting them. I've designed my own template in which those analysts type in their reactions. Critically important are the income statement, the balance sheet, and the statement of cash flows. We pull key numbers off of those. Nothing subtle here, no secret sauce. I like to see sales growth, I like to see the profit margins of a company, I like to know how much company cash is sitting on the balance sheet, and how much company debt might be sitting on the balance sheet. I like to know if the company's cash flow positive or not. Sometimes companies are generating cash flow but look like they're losing money because their earnings are negative. Amazon was that way for a long time. I like to notice that. And I like to do ratios and see growth rates. Never anything more than fifth-grade math, as I've been wont to say in the past.

So, yes, I love numbers. Numbers matter a lot. You're right. It's not the most interesting thing to rock on a podcast. I'd far rather share stories on my mailbag than lots of numerical answers. When we're going to do "Authors in August," which we're going to do in a couple of months, where I have authors back -- just like I did last August -- this coming August, I'll be mentioning that at the end of this podcast, get you a short reading list going. But I like to talk with authors. Maybe we'll mention dates or factual numbers, but we're not spewing numbers. We're not technical investors here. But we are fundamental investors. I care deeply about the numbers behind the companies that I recommend. And, of course, I care deeply about the numbers they generate for us as investors. That's point No. 1. Yes, it counts, but you're right, it's not great for podcasts in my experience.

Then, finally, point No. 2 is, even though you and I use numbers, I hope -- you're talking about developing your own process, Nate, so I hope you're using numbers in your process -- my actual belief is that most of the world is running the numbers. Most of the investment world is very numerically driven. And then they have algorithms that are searching for certain numbers in screens, and then trade, sometimes within a second, inside of a second, trade in and out of stocks based on all the numbers. I'm never going to try to compete with that. Not only that, I don't want to. It's so short term, and it would be so exhausting, I have no interest in it. I think our real edge, often, as Foolish investors, comes from the right side of our brain, from seeing what the world is not seeing, from projecting things forward, from thinking about whether that brand is a winning or losing brand or whether that ad causes you to want to be part of that organization or not or whether the leadership is innovative. By the way, who is running the company? These things are not expressed on the balance sheet, income statement, or statement of cash flows. It's those right-brain things, often, that I think give us our edge. I hope you'll make that part of your process, too. That's what I do a lot on Rule Breaker Investing. I present that part for our podcast because I think it's more fun to talk about, and it's ultimately where I think more of our value lives.