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6 Steps to a Winning Stock Portfolio in 2012

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January 22, 2012 - 6 Steps to a Winning Stock Portfolio in 2012 - By Zacks Investment Research

The market didn't do much in 2011, ending the year close to where it started. But most investors didn't get a flat finish in their portfolios. In fact, the average stock market investor lost money in 2011.

Why is that?

The simple answer is that they were in the wrong stocks. The reality is that most investors typically invest without a clear roadmap. They don't feel the downside of this approach when the rising tide lifts all boats. But navigating an uncertain environment, like 2011, without a plan of action is a recipe for disaster.

The New Year is not without its share of issues. But as I explained in last week's Weekend Wisdom titled "Investing For Success in 2012", there is a way to come out ahead. And this is exactly the time to make those decisions to put your portfolio on a sound footing for the year. The 6 steps shared below will get you on your way.

This May Not Be For You

If you are someone who has a consistent stock-selection system that helped you come in ahead of the market last year, then you probably don't need our advice. Feel free to stop reading at this stage.

With the rest of you, I would like to share the investment process that we rely on here at Zacks, which makes use of 6 different factors to build a winning portfolio for the long haul. Each one of these factors individually will help you pick better stocks. But putting all of them together gives you a significant edge over others in stock-market investing.

This stock-selection process is called the Zacks Method for Investing. And it lies at the heart of our Zacks Top 10 Stocks for 2012 service, which was just made available.

A random selection of good stocks, devoid of an overarching outlook for the market, will not give you the desired results. The portfolio is essentially the execution of your outlook for the market. For the Top 10 Stocks for 2012, we started with the market outlook that I shared with you last week and then used these factors to build the portfolio.

The 6 Elements of the Zacks Method for Investing

1) Valuation - There is plenty of empirical evidence that stocks with low valuations will outperform the market over the long haul. Therefore, we prefer companies that are trading with low Price-to-Earnings (P/E) and Price-to-Book (P/B) multiples relative to their peers and their own history.

2) Management Effectiveness - It is very important to get a sense for how effective the company's management is in utilizing the resources available to them. This can be done a number of different ways, but our research shows that Return on Equity [ROE] does a good job of capturing this attribute. So we seek out companies generating ROEs that are superior to their industry peers.

3) Recent Analyst Upgrades - Our research also clearly shows that stocks that have recently received a recommendation upgrade from brokerage analysts will continue to outpace the market. Most of that benefit is felt in the short run. However, quite often a stock that receives one upgrade is likely to get more in the future, which keeps pushing the stock higher.

4) Best Industries - Even the best-looking stock will underperform the market if it's in an out-of-favor industry. That is why we overweight stocks from the best industries and sectors. And there is no better guide to choosing the right groups than the Zacks Industry Rank, which focuses on the earnings estimate revisions for all the stocks in the industry.

5) Long-term Attractiveness - We look for stocks with a Zacks Recommendation of "Outperform". This is a very effective long-term indicator that suggests a stock is likely to beat the market over the next six months. The main ingredient behind the Zacks Recommendation is positive changes in a company's earnings estimates.

6) Timeliness - There is no better timeliness indicator than the Zacks Rank. We look for Zacks #1 Rank ("strong buy") and Zacks #2 Rank ("buy") stocks. These signals tell us that now is a good time to get into the stock. Just like the Zacks Recommendation, it focuses on stocks with the best earnings estimates.

Zacks has long been known for harnessing the power of earnings estimate revisions to foretell stock prices. No surprise then that half of the six factors makes use of this powerful driver.

How Do You Find This Information?

The first three of these elements are free and widely available on Zacks.com and other investment websites. If you just concentrated on these elements you would be much better off than you are now.

The last three elements are proprietary to Zacks Investment Research and only available through our premium subscription services. Adding these three elements to the free ones above will put an almost unfair advantage in your hands.

The best way to tap into all 6 elements right now is through our Zacks Top 10 Stocks for 2012 service. These stocks have been hand selected to outperform the market this year. One key change in the design of this year's portfolio is our ability to tactically respond to adverse changes during the year. Driving this change is the thinking that buy-and-hold does not mean buy-and-forget. We will not hesitate to make changes to the portfolio should conditions so warrant.

This long-term investing opportunity promises market-beating gains no matter the direction the market heads. We've just released the Zacks Top 10 Stocks for 2012. Other Zacks.com members are already buying up shares of our best long-term stocks. The sooner you get in, the more you figure to gain.

Thanks and prosperous trading, Sheraz Mian

Sheraz Mian is the Director of Research at Zacks Investment Research where he relies on access to valuable data to assess winning stocks and funds. Now, you can see the stocks that he and his team of analysts believe to be the most promising for the coming year in Zacks Top 10 Stocks for 2012.

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