John Reese is founder and CEO of Validea.com and Validea Capital Management, and portfolio manager for the Omega American & International Consensus funds.
The holiday gift-buying season is in full swing, with determined shoppers scouring stores and the Internet to try to find the hot-ticket toys and gizmos at the top of their loved ones' lists.
This annual race for the hottest gifts got me thinking about what Peter Lynch wrote in his classic book One Up on Wall Street .
Mr. Lynch - perhaps the greatest mutual fund manager of all-time - offered a tip that he said could give individual investors an advantage over the big guys: Invest in what you know.
Mr. Lynch thought that if you knew something positive about a stock - you buy the company's products, like its marketing, work in its industry - you could find strong stocks before professionals caught on to them.
But while focusing on "what you know" can be a helpful starting point, it's far from the be-all and end-all of investing.
In fact, in the revised version of One Up on Wall Street, he said many had misinterpreted his advice.
"Peter Lynch doesn't advise you to buy stock in your favourite store just because you like shopping in the store," he wrote, "nor should you buy stock in a manufacturer because it makes your favourite product or a restaurant because you like the food." These are merely good starting points, he said.
His bottom line: "Never invest in any company before you've done the homework on the company's earnings prospects, financial condition, competitive position, plans for expansion, and so forth."
I couldn't agree more. With that in mind, I thought it would be interesting to look at some hot holiday gifts and see if the companies behind them are worth a look for investors.
The Beatles: Rock Band; Viacom :
While the highly advertised video game - which allows players to strum, drum, and sing along to Beatles tunes - didn't have quite the initial success that analysts expected, it's no doubt been on many shoppers' lists. The game is made by Massachusetts-based firm Harmonix, which is owned by MTV, which, in turn, is owned by New York City-based Viacom.
While you may want to pick up a copy of the new Beatles game, my Guru Strategies stock screens aren't keen on picking up Viacom shares.
In fact, none of my strategies have any interest in the $18.4-billion (U.S.) market cap firm. A couple reasons it falls short: a meagre 3.7-per-cent long-term earnings growth rate; an 85.3-per-cent debt-to-equity ratio; and a dicey balance sheet - it has $6.8-billion in debt and net current assets of -$102.0 million.
Transformers: Revenge of the Fallen Action Figures; Hasbro :
While the second film in the Transformers series was widely panned by critics, its toys have been flying off shelves.
Rhode Island-based Hasbro, which has a $4.2-billion market cap, gets approval from the Guru Strategy screen based on Mr. Lynch's writings. Mr. Lynch is known for pioneering the use of the price/earnings/growth ratio, which divides a stock's price-to-earnings ratio by its historic growth rate to identify growth stocks selling on the cheap. P/E/Gs below 1.0 are indicative of good buys, and, with a yield-adjusted P/E/G of 0.67, Hasbro makes the grade.
Hasbro also has a debt-to-equity ratio of 78.5 per cent; and its inventory-to-sales ratio hasn't risen significantly in the past year, now at 7.5 per cent.
Apple iPod Touch, 3rd Generation; Apple :
The 8 GB and 32 GB versions of this touch-screen gizmo top Amazon's MP3 player sales list.
My models are lukewarm on Apple, though the Lynch method does have some interest. On the surface, Apple looks like a great pick, with a P/E/G ratio of just 0.59, a 0 per cent debt/equity ratio, and a declining inventory/sales ratio. The problem, however: the firm's 53.7-per-cent long-term growth rate. The Lynch approach likes sustainable growth (ideally in the 20-per-cent to 30-per-cent range), and it thinks it's unrealistic to expect a company to keep growing over the long term at a 50-per-cent-plus clip. And, with the stock trading at about 31.5 times earnings, a drop in growth to even a solid 30 per cent could send Apple's P/E/G to unattractive levels.
Garmin Forerunner 305 GPS; Garmin :
While the GPS landscape is dominated by automobile navigation units, this product has cracked the Top 10 on Amazon's GPS sales list. Worn like an oversized wristwatch, it's a GPS workout tool that lets you chart and save courses for running, hiking, or biking; saves data from your training sessions so you can compete against previous times; and measures your heart rate.
Garmin is a good example of a company with hot products, and the balance sheet to match. My Lynch-based model likes the stock's stellar 0.31 P/E/G ratio and 0 per cent debt/equity ratio. It also passes my Warren Buffett-based approach: The firm has upped earnings per share in eight of the past 10 years, has averaged a 28.5-per-cent return on equity in that period, and has no long-term debt.
Disclosure: I'm long GRMN and AAPL.
John Reese