Sometimes it's an enlightening event to rank stocks based on different criteria. Digging into numbers can reveal interesting trends and help hone your future investing skills. This is especially true around times of extreme volatility, when a lot of money can be made. . .or left on the table.
January has been an excellent month (so far) for Tailwinds. We are up 18% net on the month, which is well ahead of the Russell 2000's 10%. Driving that performance were several stocks that have done extraordinarily well, including Resonant, which was my top pick for a year end bounce.
However, when your top trade is up 133%, it makes one wonder if this month isn't nearly as great as it could be. To be absolutely spot on and not put up even bigger numbers could be a sign of damaging great idea generation with poor execution.
Here are the YTD numbers for the Tailwinds (TW) universe ranked by percent return.
On the surface, the list has no apparent biases. The top company has minimal revenue, the bottom is cash-flow break-even. However, the second from the top is about to go break-even and the second from the bottom has minimal revenues. Obviously, revenues and earnings were not a differentiating factor in January.
Considering the decimation that happened in the market late last year and the dramatic rebound this year, perhaps the best performers were last year's weakest? I ranked them in these orders and, indeed, RESN topped both lists at down 87% last year and up 133% this year. However, there didn't appear to be a discernable trend beyond this.
I know this picture is ugly, but here's what it looks like if you connect this year's best performers (left column) with last year's worst.
It's a complete mismatch. Once you get past RESN, there is no apparent trend. Just because you got slaughtered last year doesn't seen to have any correlation to this year's performance. Companies like CATS and VICR have done well this year after putting up good years last year. Meanwhile, weak stocks in 2018 like IWSY and SGBX haven't been leaders this year.
However, by playing with a bunch of numbers, I think I found a trend that has determined a big piece of the success in the Tailwinds universe this year. The best thing about it is that I'm convinced that this trend is likely to be repeated the next time we have a market meltdown, followed by a reflex bounce.
Here's the scoop: the companies with the best liquidity profile were, in general, the more consistent bouncers. Think about that for a minute. If you wanted to play something for a year-end bounce, or to time the market bottom, what better play than a liquid security? It makes sense that companies in which you could put more money to work were the first to rebound.
Here's a pictorial of the best performer stocks in TW's universe in 2019, and their liquidity. As you can see, it's still a messy picture, but much less so than the prior.
Notice that the lines are much shorter. This means that liquidity is more commonly associated with the stock's performance during this January bounce than what the stock did last year (previous picture).
In particular, notice the weakest performers. Of the six weakest stocks in our universe, four were among the six lightest in terms of liquidity. The least liquid stocks had the hardest time rallying!
As I said earlier, it makes sense that money playing a bounce would go to liquid stocks; if the bounce thesis didn't play out, they could easily sell. So, for those who think illiquid stocks have the best "profile" for a rally (meaning one buyer could send them higher), they are having trouble getting interest.
There are two key takeaways from this endeavor, in my opinion. The first is obvious: next time there's a major market dislocation on the downside, play the most liquid names for a bounce. I'm guessing that, if you follow this rule of thumb in the next major selloff, you'll do quite well.
The second takeaway is more speculative at this time. Which is simply, that the least liquid stocks are laggards and should play catch up soon. I would postulate that this will be the case. . .IF the rally continues and turns into a nice little bull market. So, I'm tempted to move some money into names like WISA and HJLI, companies with great stories, in my opinion, that have yet to participate in this rally.
A couple of final notes. I ran a study that ranked companies based on the dual criteria of weakness last year and liquidity, to see if there was a correlation between those two factors together, versus this year's performance. It didn't work. At the end of the day, I think RESN being the weakest stock in 2018 and best in 2019 (in TW's universe) was somewhat of an outlier. Last year's performance doesn't dictate this year's. More important is liquidity if/when the market decides to rally.
Also, I might also add that, obviously, there are more liquid stocks out there. I'm not talking pure liquidity, but relative liquidity, liquidity relative to the peers in their universe.
Daniel Carlson is the founder and managing member of Tailwinds Research Group and its parent company DFC Advisory Services, which is a licensed registered investment advisor (CRD # 297209). Tailwinds is a microcap focused research company that provides research on and consults to over 20 emerging growth companies in the technology and life sciences arenas. DFC Advisory Services is an RIA that manages money dedicated to investing in the companies covered by Tailwinds. For more information on these two companies and their track record, please see www.tailwindsresearch.com. Prior to founding these two entities, Dan spent many years working with small public companies, having been CFO of two public companies and helping finance many others. A 1989 graduate from Tufts University with a degree in Economics, Dan’s formative years in business were spent as an equity trader, first on the Pacific Coast Stock Exchange then on the buyside at several multi-billion dollar firms.
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