The Fed Pauses, Plus William O'Neil and the CAN SLIM Strategy

Yesterday, as most of you know, the Federal Open Market Committee (FOMC) kept interest rates unchanged. It was the first time that interest rates haven’t been raised in 11 meetings.

The so-called dot plot, which graphs committee members’ expectations of future interest rates, suggests that yesterday was a pause and not a halting of rate hikes. The majority of committee members expect the target range for rates to be at least 5.50% to 5.75% by year-end. This is 50 basis points (bps) higher than the current range of 5.00% to 5.25%.

As of this afternoon, the futures traders were pricing in a 67% probability of a quarter-point interest rate hike (0.25%) being made at the July meeting according to the CME FedWatch Tool. Traders are not pricing in a second interest rate hike occurring later this year. As always, those odds are very much subject to change.

O’Neil’s Strategy and the AAII Screens Based on It

As I mentioned in last week’s Investor Update, William O’Neil died on May 28, 2023. He was 90 years old.

O’Neil had a long career in finance. He started as a broker with Hayden, Stone and Co. in 1958. He went on to start his own firm, William O’Neil + Co., then Daily Graphs in 1972—the precursor to what is today MarketSmith—and Investor’s Business Daily (IBD) in 1984.

O’Neil’s first article for the AAII Journal was published in April 1999 (Growth Stock Selection: Covering All the Analysis Bases). He went on to write five more.

In an obituary, IBD says O’Neil initially studied the investing strategies of other successful investors. Jack Dreyfus, who founded the Dreyfus Fund, was cited as having a particular influence.

O’Neil’s research did not stop there. He went on to analyze the common traits of the biggest stock market winners using decades of data. His goal was to identify what he described as “the key characteristics of winning stocks.” This led O’Neil to come up with what he considered to be “the seven factors that occurred in virtually every major winner.”

Those seven factors became known as CAN SLIM. CAN SLIM is an acronym that stands for:

• C = Current quarterly earnings: Strong quarter-over-quarter growth
• A = Annual earnings increases: Strong and ongoing year-over-year growth
• N = New products, new management, new highs: Product innovation and new highs for the stock price
• S = Supply and demand: A reasonable number of shares traded and higher volume on upward stock price moves
• L = Leader or laggard: Industry and market leaders
• I = Institutional sponsorship: Institutional investors are active in the stock
• M = Market direction: The stock market’s trend is positive

Over the years, there have been some tweaks made to the specific requirements underlying each of these traits. O’Neil suggested seeking quarter-over-quarter earnings per share growth of 18% to 20% in his 1999 AAII Journal article. Earlier this year, IBD published an article calling for growth of at least 25%. Even with such tweaks, the underlying philosophy of CAN SLIM has not changed.

AAII has three O’Neil stock screens reflecting our interpretation of his strategy. The first one is based on the second edition of his book, “How to Make Money in Stocks: A Winning System in Good Times and Bad” (McGraw Hill, 1995). Our O’Neil’s CAN SLIM screen has the fourth-best return since inception of all AAII Stock Screens. Its annual price gain since 1999 is 19.2%. (The AAII Stock Screens’ returns assume a one-month holding period and exclude dividends and transaction costs.)

Currently, no stocks are passing O’Neil’s CAN SLIM screen. On an average month, just one stock passes the screen. This is due to the restrictive nature of the CAN SLIM criteria. CAN SLIM sets a high bar for a stock to qualify.

We created O’Neil’s CAN SLIM No Float screen to identify more stocks. It removed the requirement for a stock’s float to be no higher than 20 million shares. (Float is the number of shares available for trading, defined as shares outstanding minus shares held by management. O’Neil did not explicitly lay out a float requirement in his original book.) This screen is still restrictive, however, with a monthly average of just three stocks passing.

During turbulent periods for the stock market and/or periods with poor earnings growth, few to no stocks will qualify under the CAN SLIM strategy.

O’Neil’s books and research have had a lasting impact. I’ve met many AAII members and other individual investors who incorporate CAN SLIM into their approaches. O’Neil also inspired others in the industry, including investment professional Marc Reinganum. Reinganum’s use of O’Neil’s insights served as the basis of AAII’s Stock Market Winners screen. This screen’s average annual price gain since inception of 14.1% ranks 12th out of all the AAII Stock Screens.

Special note: The U.S. financial markets, and our office, will be closed on Monday in observance of Juneteenth.