Upon reading Business Week's "Hot Growth 2004 Scoreboard", one will notice that it should have been a list of stocks to avoid. A "hot stock" is the type of company that you should get a double-digit rate of return over a long period of time. So in nine years, an investor should probably be up at least 150%. That's a conservative estimate.
There were some winners on this list of 100 growth companies. Dick's Sporting Goods (NYSE:DKS) went from about $15 to over $50. Panera Bread (NASDAQ:PNRA) went from $42 to $160. Joseph A. Banks (NASDAQ:JOSB) from $15 to over $40. Varian Medical (NASDAQ:VNR) from $24 to $71. Flir Systems (NASDAQ:FLIR) doubled. These are some of the bigger names in which readers would be familiar. Links to past articles on Seeking Alpha are available.
The next tier of companies listed are stocks that basically have gone nowhere and/or lost money. Chico's (NYSE:CHS) has been lackluster over that time frame. It used to be gang busters. Petmed Express (NASDAQ:PETS) is up about $2 a share. Pet insurance was supposed to be the next growth industry. Everyone was supposed to want to buy insurance for their cats and dogs. Sanderson Farms (NASDAQ:SAFM) is up about 20% but that's over nine years. Coach (NYSE:COH) has more than doubled but that's about an 8% compounded rate of return. Coach's return is looking stellar compared to what the rest of this portfolio looks like.
The stocks to have avoided like the plague were for-profit education. Universal Technical Institute (NYSE:UTI) $46 to $11. Corinthian Colleges (NASDAQ:COCO) $31 to $2. Career Education (NASDAQ:CECO) $68 to $3. The standout of the group is Strayer Education (NASDAQ:STRA). You would have only lost half of your investment in Strayer.
Then there were the fad stocks. K-Swiss (NASDAQ:KSWS) went from about $20 to a little over $5. White-striped shoes didn't do well over the last nine years. Aeropostale (NYSE:ARO) and Hot Topic (NASDAQ:HOTT) lost about half of their value. Pacific Sunware (NASDAQ:PSUN) lost about 90%. It always seems like the teenybopper stocks never do well. Shuffle Master, now known as SHFL Entertainment (NASDAQ:SHFL) is down 50%.
Some were buyouts like Yankee Candle and Sportsman's Guide. The returns on the buyouts varied depending upon acquisition dates.
So why the mediocre returns? For one thing, the market crash in 2009 dragged everything down. Another reason is price to earnings ratio compression. Chico's now trades at a PE of 15 and used to trade in the 40s and 50s. That's one of the downsides to growth stocks. The three biggest words in real estate are location, location, location. In investing they are pricing, pricing, pricing.
The next reason is share creep -- also known as share dilution. If stocks buybacks are good then are secondary offerings bad? Not if the growth is accretive, meaning that the additional income per share exceeds the negative effects of share dilution. In 2004, Coach had 192 million shares outstanding. Today, 280 million. Still, Coach's stock was profitable.
The next reason is that most fads don't work. The stocks on this list that profited provide goods and services that are needed and run by good management. Strong clothiers like Joseph A. Banks and Coach did much better than Pacific Sunware and Aeropostale. The latter two couldn't stand the test of time.
Conclusion: Pricing matters. Price to earnings ratio, price to book, price to cash flow, dividend yield. These things will always matter. Companies that are well run and that provide goods and services that are needed will last. Stay away from fads. They are sure losers.