Earlier this week, I told you that the market is poised to take a bearish turn and cited three main reasons:
1. Weak fundamentals
2. Lofty market valuation
3. Investor complacency
But I also told traders that when I say the market is likely to pull back, that doesn't mean they need to sell everything or stop trading.
In my experience, that's definitely true. And to expand on that, I want to share some research from Tom Vician, Chief Investment Strategist of Alpha Trader, for a look at what stocks are most likely to go up in today's market.
For those who aren't familiar with Tom, he's a 20-year veteran of the financial industry. He's done everything from managing hedge funds to private wealth accounts and more. And as the man behind our successful Alpha Trader system -- which delivered 16 double-digit winners last year -- he's the perfect choice to identify what's working in today's market.
According to Tom's research, although stocks are essentially flat from where they were a year ago, "high-beta" stocks have performed the worst and held the market back. Here's how Tom put it:
"The hardest-hit stocks [in 2016] have been high-beta stocks that had been outperforming the broader market [in 2015]. Remember, high-beta stocks are by definition more volatile than others. Simply put, they make bigger moves than the average stock -- regardless of direction.
In the past eight weeks, more than 20 high-beta, high-Alpha Score stocks on my technical watch list have failed to ripen into buy recommendations. This is very unusual, but for the best.
Sometimes, good trades are the ones you never take."
This presents an interesting phenomenon. Typically, Alpha Trader recommendations tend to be higher-beta stocks. But lately, it's the safer, low-beta stocks that have been winning out. In fact, according to SentimenTrader.com, over the past year, the 10% of stocks with the least volatility had a return of 10.4%, while the 10% most volatile stocks lost more than 31%. That's the widest margin in 15 years.
The table below stretches back to 1964 and shows the number of times when high-beta stocks underperformed low-beta stocks by 40%, along with the performance of the S&P 500 three months later.
This signal has occurred 33 times in the past 52 years, and nearly 80% of the time, the market fell an average of 4.3% in the next three months.
Tom expects this condition to persist a little while longer, so he used Alpha Trader's proprietary indicator -- known as the Alpha Score -- to find low-beta stocks most likely to beat the market.
For those of you who aren't familiar with the Alpha Score, it's a powerful indicator derived by combining two of the market's most effective metrics.
The first metric, relative strength (RS), is a way to rank stocks based on how they are performing relative to other stocks in the market. Simply put, stocks that are outperforming the market tend to continue outperforming. The power of this indicator has been proven by extensive research spanning decades, yet because it's not widely used, it's still a highly effective technical indicator for those in the know.
The second metric, cash flow relative strength (CFRS), provides a key fundamental measure of a company's profitability. Cash flow is the lifeblood of successful businesses -- the better the cash flow growth, the better the business -- a reality that's reflected in stock prices.
Cash flow is also one of the most reliable numbers in finance. While companies can manage earnings to meet analysts' expectations or inflate balance sheet assets using misleading reserve allowances, this metric is much harder to fake.
We combine these two indicators to get a stock's Alpha Score, which can range from 0 to 200. The higher the score, the more upside potential the stock has. We only consider stocks with Alpha Scores above 140 as potential recommendations in Alpha Trader. It's how we narrow down our investment universe from the more than 6,000 stocks in our database to only a few hundred stocks with the highest potential.
Then Tom uses technical analysis to time the prefect entry point. So at any given time, there are only a select few stocks -- the best of the best -- that are signaling "buy."
Even rarer are safer, low-beta stocks with high Alpha Scores. But Tom found one that he thinks has the potential to double over the next 12 months, and it was featured as the Trade of the Week.
The goal of Trade of the Week is to highlight the best trading idea I see each week among our premium services. Because we offer a wide range of trading services here at Profitable Trading, Trade of the Week can help you profit in any market -- regardless of whether stocks move up, down or sideways.
This week, Tom's low-beta, high-Alpha Score stock was the clear choice to profit in this stagnant market.
When the company reported its latest quarterly results in May, they trounced analysts' earnings and revenue estimates. But the best part of the report was the incredible 108.5% year-over-year increase in cash flow. The company has grown cash flow faster than 87% of companies over the past year, giving it a cash flow relative strength of 87.
The stock has soared since the announcement, breaking out of a six-month ascending triangle pattern, and is now trading at all-time highs. Over the past six months, the stock has outperformed 75% of the stocks in the Alpha Trader database, giving it a relative score of 75.
Finally, it has a below-average beta of 0.69, meaning it's 31% less volatile than the market. Add to that the stock's impressive Alpha Score of 162, and this is the ideal stock for today's market environment, especially if stocks pull back.
And here's the best part, you can access this pick for just $19. This isn't a gimmick, so please hear me out.
We regularly charge a few hundred to a few thousand dollars for a yearly subscription to one of our premium services. Alpha Trader, for instance, costs $1,000 a year.
We realize that's a big commitment, which is exactly why we started Trade of the Week. With it, you pay only $19 a month, and you get one trade recommendation a week -- the one that is best suited to that week's trade environment.
This article originally appeared on ProfitableTrading.com: The No. 1 Stock For This Stagnant Market