When an investor like Warren Buffett amasses a fortune of tens
of billions of dollars in large part due to his stock market savvy,
or a mutual fund manager like Peter Lynch doubles the market
average for over a decade, it's easy to imagine that they are close
to infallible when it comes to stock-picking. After all, to be that
successful, an investor has to be correct the vast majority of the
Nope. While they likely make good calls more often than bad
calls, the truth is that even great investors lose money on a lot
of their stock picks. When you are dealing with a financial machine
that has as many moving parts as the stock market, expecting to be
right on 100% of your picks (or 90%, 80% or even 70% of your picks)
just isn't realistic.
It's also not necessary -- and, in fact, it can be quite
One of the gurus I follow who stressed this point is Martin
Zweig. During the 15 years it was monitored, Zweig's stock-picking
newsletter was ranked number one according to risk-adjusted returns
by Hulbert Financial Digest, averaging gains of 15.9% per year. But
Zweig wasn't perfect. He didn't try to be.
Zweig chose stocks using what he termed a "shotgun" method,
which involves screening thousands of stocks against specific
quantitative investment criteria to find those that make the grade.
This was in contrast to what he called the "rifle" method, which
involves analyzing a small number of stocks very thoroughly,
looking not only at fundamentals but also at non-quantitative
When you're screening through thousands of stocks, you're going
to end up buying some that turn out to be busts, and Zweig found
that his approach had a built-in error rate of about three-eighths
over the long term. "That is, out of eight stocks that I pick,
three, or 38%, will underperform the market," he wrote in his book,
Winning On Wall Street. Of course, it would be great if you knew
ahead of time which stocks fell into that 38%. But no one can do
that -- and Zweig showed that you don't have to. Beating the market
62% of the time netted him huge profits.
Tilting the scales
Other great investors (Buffett comes to mind) use something of a
rifle approach -- and they make plenty of mistakes, too. In fact,
Buffett often discusses his mistakes quite candidly in his annual
But Zweig said the shotgun approach is probably more suitable
for most people. I agree. Most investors don't have the time to
perform in-depth research on numerous different companies. Plus, a
shotgun approach helps keep dangerous emotion out of your
decisions, since you're sticking to the numbers -- a stock's
financials and fundamentals.
Zweig isn't the only guru I follow who used a shotgun method.
Top hedge fund manager Joel Greenblatt does, too. His strategy
targets stocks that are often beaten down but have strong
fundamentals -- though they could have non-quantitative factors
that are driving them lower. "That's why you really have to buy a
basket of 20 or 30, because I'm not sure anyone really knows the
answer to each individual one of these companies," he once said.
"On average they'll do quite well over a period of time, but I
wouldn't want to select one or two individual stocks from that
Both Zweig and Greenblatt thus knew no stock-picker is perfect
-- they succeeded instead by tilting the odds of success, based on
historical data, in their favor. That's what I do with my Guru
Strategies, each of which is based on the approach of a different
investment great, and my experiences with these shotgun-type
methods have been in line with what Zweig and Greenblatt say. For
example, since I started tracking it over 11 years ago, my 10-stock
Zweig-inspired portfolio has averaged gains of about 9.7% per year,
while the S&P 500 has gained just 6.1% per year. But the
portfolio's accuracy (the%age of picks it makes money on) is 56.9%
-- far from perfect.
Similarly, my Greenblatt-based portfolio, which I started
tracking in late 2005, has gained 10.3% per year vs. just 5.0% for
the S&P 500, but it's been right on just over half (53.8%) of
The bottom line is that you're going to make plenty of losing
stock picks. If you try or expect to be perfect, you're much more
likely to get rattled by those mistakes, making it more likely that
your emotions will cause you to ditch a good strategy at just the
But while you can't be perfect, "you can, however, be right more
than you are wrong," Zweig wrote. "If you are right 60% of the
time, ride your profits, and rein in your losses, you'll find that
when you're right you're very right, and when you're wrong you're
only moderately wrong. In the long run, a 60% success rate
translates into huge gains, a 50% rate into solid gains, and even a
40% rate can beat the market."
These are the types of stocks my Zweig- and Greenblatt-inspired
models are high on right now. I know that not all of them will be
winners, but by investing in a basket of such stocks I put the odds
in my favor.
Zweig Model Picks
Spirit Airlines (
This low-cost airline ($4.8B market cap) operates more than 250
daily flights to over 50 destinations within the U.S., Latin
America, Caribbean and Canada. The Zweig-based strategy likes that
its earnings growth is accelerating (52% last quarter, vs. 19% long
term) and its sales growth is accelerating (23% last quarter vs.
18% the previous quarter), and that it has no long-term debt.
Paychex, Inc. (
This firm is a provider of payroll, human resource, and benefits
outsourcing solutions for small to medium-sized businesses. Its
earnings and sales growth rates have been accelerating, and it has
no long-term debt.
Cognizant Technology Solutions (
Cognizant is a provider of custom information technology,
consulting and business process outsourcing services. The firm ($27
billion market cap) has grown sales at a 26% clip and earnings at a
22% pace over the long haul.
LKQ Corporation (
LKQ ($8 billion market cap) provides replacement parts, components
and systems needed to repair vehicles (cars and trucks). It has
grown sales at a 25% clip and earnings at a 23% pace over the long
haul, and both those figures accelerated last quarter.
New Oriental Education & Technology Group Inc. (
This $3 billion firm is a provider of private educational services
in China. It has grown earnings at a 28% pace over the long haul
and sales at a 30% clip, and has no debt.
Greenblatt Model Picks
Ebix, Inc. (EBIX):
Ebix ($500 million cap) supplies software and e-commerce solutions
to the insurance industry. It has a 13.9% earnings yield and 205%
return on capital, excelling on both tests used by this model.
PDL BioPharma, Inc. (PDLI):
This $1.5-billion-market-cap biotech has a strong 23.4% earnings
yield and whopping 1,216% return on capital.
Valero Energy Corporation (VLO):
This petroleum refiner ($27 billion market cap) has a 15.5%
earnings yield and 74% return on capital.
GameStop Corp. (GME):
Based in Texas, this video game retailer ($4.6 billion market cap)
has a 15.1% earnings yield and 86% return on capital.
Outerwall Inc (OUTR):
With an earnings yield of 14.5% and return on capital of 58%, this
parent of Coinstar and Redbox makes the grade.
I'm long OUTR, GME, VLO, PDLI, EBIX, EDU, CTSH, PAYX, and