What is CANSLIM? How to use CAN SLIM to Beat the Market?

CANSLIM is a Stock Investing Strategy Formulated by William J. O’Neil in his Book “How to make money in stocks”. But Does it Beat The Market?

What is CANSLIM / CAN SLIM?

CANSLIM is a stock investing strategy designed by William J. O’Neil to produce market-beating profit performance. Using the CAN SLIM criteria in your investing should mean profitable returns. Current Earnings, Annual Earnings, New Products, Supply, Leaders, Institutional Sponsorship & Market Direction are key criteria.

It combines fundament analysis and technical analysis into a cohesive strategy.

The CAN SLIM / CANSLIM Criteria

  • C – Current Earnings
  • A – Annual Earnings
  • N – New Products or Management
  • S – Supply and Demand
  • L – Leaders
  • – Institutional Ownership
  • M – Market Direction

Below we will summarize the key elements of the strategy:

C – Current Earnings

Has the company made a strong recent earnings announcement which is considerably more than the earnings one year previously?

From his research, O’Neill discovered that the majority of companies that experienced strong stock price growth had quarterly earnings growth in excess of 70% before the price growth started.

However, that might be the case for a small handful of hugely successful companies but to build a portfolio of stocks, or at least have a choice of more companies, he recommends a most recent quarterly (MRQ) earnings per share (EPS) increase of at least 18-20%.  He also suggests an accompanying sales growth of at least 25%.

The sales growth check is important because without consistent sales growth it is impossible to maintain earnings growth.

Has the company made a strong recent earnings announcement which is considerably more than the earnings one year previously?

A – Annual Earnings.

Does the company show good earnings growth for previous years?  O’Neill suggests again an annual growth rate in earnings of at least 25%. He also suggests that a return on equity (ROE) of over 17% should also be checked for as it implies the company is investing its capital efficiently.

Most stock screeners will allow you to filter on 1,3 & 5-year annual earnings growth. If you select a 5-year annual earnings growth rate this will help you to filter out those companies who are simply experiencing short term growth or manipulating accounts to show higher earnings for a particular quarter.  You can play with the timescale you use, but this seems like a reasonable criterion.

N – New Products, Management or Price Highs.

Has the company innovated its product base or injected new management to seek higher performance?  Here we essentially move to a business question.

If a company has a history of innovation or developing products that are superior to the competition in price, quality or both, this is a very good signal for future stock price growth.

Additionally, management or board changes according to O’Neill were also a positive indicator. Injecting new blood into an organization’s leadership structure is a way to drive growth, New People = New Ideas.

Here I tend to disagree, continually injecting or hiring externally to try to find that magic growth formula very rarely works out positively.

Look at the history of Hewlett Packard (Ticker: HPQ) since the founders left the company has been constantly injecting new management, merging and spinning off, to the dismay of their shareholders and employees.

Finally, the suggestion is that new stock price highs might encourage further demand for the stock and push prices even higher.

– Supply and Demand.

Does the stock have an increasing demand in the marketplace, is trading volume increasing with price?

Here we get to a core principle; in fact, it is the only reason why stock prices go up or down.  If the sellers (supply) outnumber the buyers (demand), stock prices go down.  If demand outstrips supply, prices go up.

Now on any single day, a stock price may go up or down and it is largely irrelevant.  However, if you are seeing over weeks and months volume growth and stock price going up, you know demand is higher than supply.

O’Neill recommends that the daily trading volume needs to be higher than the average volume for the stock in the previous 3 months.

– Leaders

Is the company a leader in its marketplace?  This is another key business question about competitive advantage.

A company that is a leader in its industry must have some key competitive advantages, either in product, service quality or pricing.  However, finding these companies by sifting through every firm’s product listing and doing competitive market analysis is impossible.  So, O’Neill kindly suggests looking for companies with stock price strength higher than their competitors, higher even than 80% of the stock market.

Essentially any company near, at or breaking through their stock price 52 week high is a candidate.  Add to this any company that is outperforming the major market indices in terms of price growth.  So, essentially to beat the market, you need to select companies that are already beating the market.  Seem reasonable?

I – Institutional Ownership.

Does the stock have a solid level of institutional ownership?  More than 70% of all stocks are owned by institutions, mostly on behalf of their investors.  If you have a pension or own ETF’s, you will not actually own the stocks, you own part of the company that hold those stocks for you.

The point here is that you would want to see at least 30% institutional ownership so that you know that the company is at least on the radar for institutional buyers.

As investment companies have the most buying power, they are in the position to make the biggest impact on stock prices. If the company is not interesting to the investment firms then the chances of the stock price moving significantly higher or negligible.

Finally, if institutional ownership is over 90% for example, how much room is there for the stock price to move higher? Not much.

M – Market Direction.

Understanding the overall market direction is important to be able to time your purchase of the stock effectively.

The market moves in three directions, uptrend, downtrend or consolidation (sideways). If you are buying stocks during a multi-year bear market, then the chances of you making any money are small.  During periods of market fear most company stock prices drop.

In fact, 3 out of 4 stocks move in the same direction as the market according to O’Neill.

The actual reality is that it takes 3 out of 4 stocks in the market to move upwards to move the market upwards as the market is only a reflection of all the stock prices.  The key takeaway here is that if you buy stocks in a Bull market, you have a much greater chance of making a profit, and that is a fact.

CANSLIM Strategy

Now let’s take a step back to understand the overall CANSLIM strategy.

The CANSLIM model is essentially a flexible investing style that relies on the positive momentum generated by fast-growing, profitable companies with leading products and services in a growing market.

Flexibility: With CANSLIM there is no defined holding period for a stock.  You may hold the stock for 2 days or for 2 years.  It could be seen as a swing trading strategy or a medium-term buy and hold strategy.  One thing it is not is a value investing strategy.

The entry point into a stock is suggested to be when the stock price breaks into a new 52 week high.  Also, the strategy suggests that is the stock falls 20% you should cut your losses and sell.  For any given stock this could happen within a week, or over a period of years, therefore a flexible timeframe.

Momentum: CANSLIM is a momentum strategy, as the rules are buy when the stock is at a new 52 week high, when the stock is experiencing increased trading volume and when the overall market is in an uptrend.  This is the definition of momentum trading and market timing.

Profitable Growth: The CANSLIM strategy also requires at its core a company to be growing earnings strongly. Current quarterly earnings and annual earnings must be increasing aggressively along with sales.  So, you are looking for profitable fast-growing companies.

Great Products: Of course, the L in CANSLIM refers to companies that are leading their industry in terms of product and services, innovation, or at least in stock price growth.  This makes sense, would you want to buy shares in a company that is falling behind its competitors.

Growing Markets: Finally, the M in CANSLIM refers to growing markets.  The market that the company operates in needs to be growing, for example:

  • Google’s explosive growth was fueled by the widespread rapid adoption of the internet
  • Nvidia’s growth has over the last 8 years been fueled by the cryptocurrency craze, their graphics cards chips are using in Crypto mining operations.

The CANSLIM strategy is to:

Buy stocks in profitable companies, with great products, in growing markets at the right time.

CANSLIM Historical Results

So, how has the CANSLIM strategy performed in the past?  There are various professionally back-tested studies and a mutual fund ETF based on the methodology, let’s take a close look.

CANSLIM Historical Results – OBPM II Academic Paper

In a 2013 academic paper entitled “OPBM II: An Interpretation of the CAN SLIM Investment Strategy”, found the following results:

“The simplified CANSLIM trading strategy outperformed the NASDAQ 100 Index by .94% per month for the period 2010 through 2013 and achieved a greater reward per unit of risk when compared to the NASDAQ 100.”

Theoretical CANSLIM Historical Performance vs NASDAQ 100 Backtested
Theoretical CANSLIM Historical Performance vs NASDAQ 100 Backtested. Courtesy of Lutey, Crum & Rayome 2013

Source & Copyright: Matthew Lutey (University of New Orleans) and Michael Crum and David Rayome (Northern Michigan University)

CANSLIM Historical Results – AAII Portfolio

The American Association of Individual Investors (AAII) also maintains a portfolio of CANSLIM stocks which they suggest has returned 19.9% per year on average for the last 15 years. Source.

CANSLIM Historical Results – CANGX ETF

The CAN SLIM Select Growth Fund (Ticker: CANGX) was established in 2005 to implement the CANSLIM Select strategy into an ETF so that investors can simply by the ETF rather than implement the strategy themselves.  This is a great idea, except for the fact that the CANGX fund, does not exhibit the expected 0.94% return per month higher than the underlying index.  In fact, from my calculations, it has trailed the S&P 500 by 0.79% per year.

CANGX CANSLIM ETF Historical Performance - Lags the S&P 500
CANGX CANSLIM ETF Historical Performance – Lags the S&P 500 – Chart TC2000

This does not necessarily invalidate the strategy; it simply implies that the strategy relies on good portfolio management and the process of rotating the stocks in and out of the portfolio needs to be improved.  Also, the cash allocation is important, if you only allocate75% of the cash and the rest is in bonds, you may miss out on price moved.  Additionally, during the stock market downtrends you need to move to cash as the M in CANSLIM (Market Direction) suggests.  If you do not do this on time you may suffer additional losses.

To summarize, there is plenty of positive testing to prove the system is beneficial to investor’s performance, but how you manage the buying and selling of stocks will be the big differentiator in profits.

How To Implement CANSLIM into a Stock Screener

To implement a CANSLIM strategy you will need to use a stock screener to automatically scan the entire stock market to find stocks that meet the right criteria.

CANSLIM - Stocks, Screening, Criteria & Strategy
CANSLIM – Stocks, Screening, Criteria & Strategy

LEAVE A REPLY

Please enter your comment!
Please enter your name here