Big Drops Are Big Opportunities

Those big drops in the stock market can be murder to your portfolio. But, as the saying goes, "from the ashes a phoenix shall arise." The secret is to buy stocks that have been burned, but still have the potential to soar. This article will help you find more of those stocks.

There is a somewhat new phenomena called the "V"-shaped recovery. This is basically a swift move lower followed by an equally swift move back higher. People who watch every tick of nearly every stock will have an advantage over most investors; they know the best time to jump back in.

This leaves most investors out in the cold, unless they have the intestinal fortitude to withstand the big drops. But who among us didn't panic even just a little during those dips?

Markets Come Back, Some Stocks Don't

It seems that just about every stock sees some pain in a market-wide sell off. Most will gain back the ground they lost and return to pre-correction levels. Glamour stocks, the ones with plenty of media coverage, are among the first to get those losses back.

The problem is that the speed at which glamour stocks gain back ground can be mind bending. The stocks that don't get it all back at once should be the ones you focus on. The problem is, there is just too many of these stocks and some of them will never get the media spotlight cast on them.

Thankfully, there are stocks that get beaten up, give a pause at or near the bottom and then begin to head back higher. These stocks generally have something in common; it's a combination of upgrades and higher earnings estimate revisions.

More . . .


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Gauging the Fear

Often times, market-wide sell offs are predicated on macro events. Sometimes it comes when a country is not paying its bills (Greece), other times it could come from currency devaluation (China). These macro events tend to bring sudden and severe changes to prices across all markets.

There are signals, however, that tell us when traders are expecting a big change in the direction of the markets. It is not an infallible signal, but it has given traders a heads up many times in the past. The indicator I am referring to is the VIX, a measure of the volatility in the markets.

Without going into too much detail, suffice it to say that as the VIX rises, the amount of fear in the market is rising as well. Professional traders that have the dry powder often hold their nose and dive into the mess of the markets when the VIX is reaching highs. As the index begins to return to more palatable levels, regular investors tend to follow suit.

Analysts Calling the Bottom

While traders and daily market watchers have the VIX to follow, those who focus on a day job most of the time are left with a different barometer. One of the biggest sources of market moving information (that doesn't come directly from the company itself) are the analyst reports that come from brokerages and specialty research firms.

Most analysts will just ride out the volatility in their respective foxholes and keep their heads down. There are some, however, that will go out on the limb when they think the time is right. I am not talking about the analyst that upgrades the glamour stock, it's the stock that few have heard of that has dipped to single digits.

Those big corrections give analysts the chance to really stick their necks out and start coverage or upgrade one of those unloved stocks that has seen its price drop dramatically. These events don't happen that often, but shortly after things start to look up, the upgrades will boost these stocks back to the double digits.

The Best Part of the Upgrade

When analysts upgrade a stock, they tend to say the story has changed and the outlook is getting better. Following a large macro-driven correction, some stocks break below the double digit threshold and that can be just the thing that makes some analysts salivate.

It is not a surprise to most when I say that some upgrades are better than others. The total reversal from sell to buy is great, but the upgrade that carries the most weight is the one that comes along with a strong move higher in earnings estimates.

Not only is the analyst saying that the price of the stock is undervalued (thanks to the macro-driven correction) but the outlook has vastly improved and the earnings estimates are being revised up as a result. Other analysts see that upgrade and after some homework could come to the same conclusion. The best result is a string of upgrades with an equally strong string of higher earnings estimate revisions.

While there are many market sources reporting on the daily upgrades and downgrades, few are watching the estimate revisions as closely as the Zacks Rank. Use the rank in conjunction with macro sell offs to find the stocks that analysts like and foresee results improving.

In fact, the Zacks Rank system has nearly tripled the market since 1988 with average gains of +26% per year. And when you look at strong Zacks stocks that are small caps, the gains have been even greater than that.

Where to Find Selected Stocks with High Potential?

How do you narrow this list further? You might check with the Zacks' portfolio service I'm managing: Zacks Stocks Under $10 portfolio.

My process is to select 15-20 companies that have the best long-term potential. I make sure that these stocks are diversified through several sectors so we don't put all our eggs in one basket.

We get in when the fundamentals point to success ahead, and will ride them out to their maximum potential. Certainly we will enjoy our fair share of doubles and triples as time rolls on. I also keep a sharp eye on the nasty dark side of these stocks to ensure we cut losses early in the game.

So if you are interested in low-priced stocks with improving fundamentals and great upsides, then you are welcome to join me on this journey. In fact, after the market opens Monday, I am adding a fresh small-cap medical device maker that just knocked earnings estimates out of the park for the 4th quarter in a row. This is your chance to be with us at the beginning of our ride.

With recent market plunges and a bull market that is likely to run some more, this is a great time to snap up shares of stocks like these.

Also, if you get in now, you can download our new Special Report for free: Zacks' 2016 IPO Watch List. It gives you a heads up on 5 private tech companies with unlimited growth potential that could soon go public.

This free opportunity is being withdrawn Saturday, February 6 so I suggest you look into it right away.

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Brian Bolan is our aggressive growth expert and one of the hottest hands at Zacks who specializes in long-term double-digit stock gains. He is the editor of the Zacks Stocks Under $10 portfolio.

Want the latest recommendations from Zacks Investment Research? Today, you can download 7 Best Stocks for the Next 30 Days. Click to get this free report

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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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