Getting To Know Stock Screeners

Stock Screening Basics

Stock screening is the process of searching for companies that meet certain financial criteria. A stock screener has three components: a database of companies, a set of variables and a screening engine that finds the companies that satisfy those variables and generates a list of matches.

Using a screener is quite easy. First you answer a series of questions such as the following:

Do you like large-cap or small-cap stocks?

Are you looking for stock prices at all-time highs, or companies with stocks that have fallen in price?

What range for the price-to-earning (P/E) ratio is acceptable? The good screeners will allow you to search using just about any metric or criterion you wish. When you finish inputting your answers, you get a list of stocks that meet your requirements.

By focusing on the measurable factors affecting a stock's price, stock screeners help their users perform quantitative analysis . In other words, screening focuses on tangible variables such as market capitalization , revenue , volatility and profit margins , as well as performance ratios such as the P/E ratio or debt-to-equity ratio . For obvious reasons, you cannot use a screener to search for a company that makes, say, "the best products".

Customizable Screeners

Three of the best free screeners on the web include those offered by Yahoo Finance, MSN Money and Morningstar. All three have basic screeners and advanced screeners.

The basic screeners have a predetermined set of variables whose values you set as your criteria. For example, one of the variables on the Morningstar basic screener is minimum capitalization, for which you choose one of six different values to be the smallest market cap you want to see in a company.

The more advanced screeners demand more from investors. There are three parts to each criterion setting: the criterion (the variable), the value and the condition. The criterion is the given quantitative metric, such as the P/E ratio, and the value refers to the numerical constraint on the measure. The condition refers to how you want your criterion to compare to the value. If you wanted your criterion to equal the value, you would use '='. If you wanted it to be greater than, you'd enter '>=', and if you wanted it to be less than, you'd use '<='. For example, if you wanted a P/E greater than 25, the variable would be the P/E ratio, the value would be 25 and the condition would be '>='.

Although there are some good free screeners out there, if you want the very latest and the very best technology you will likely have to break down and get a subscription to a screening service.

Example Screen on Yahoo

To demonstrate how screeners work, let's look at an example using Yahoo Finance's free screener. Let's say we are looking for a life insurance company that trades on the NYSE , has a P/E ratio under 25, has revenue growth of 10% over the last five years and has profit margins of at least 10%. Before the age of computers, searching for companies to meet these criteria would have been a massive undertaking - it could have taken days. With a screener, it's easy.

Here is what the screener looks like on Yahoo Finance:

After we enter these criteria into the screener, it gives us the companies that make it through each of the filters of our search. (Note that these figures were correct at the time of the search, but are likely to change continually as stock prices fluctuate and new financials are reported.)

Now that we have the results of the stock screen, we have two candidates that are worthy of further analysis - that is, if we are confident in our criteria and the values we choose for them. The companies that the screener gives us are only as valuable as the searching criteria we enter. Also, it's important to remember that the screen is not the analysis itself. The screen can't guarantee that the two companies that made all our criteria are the best buys, so we have to dig deeper to find out more.

Predefined Screens

The big challenge with using screens is knowing what criteria to search for. The hundreds of variables make the possibilities for different combinations nearly endless.

Screeners are extremely flexible, but if you don't know what you're looking for or why, they can't do much for you. To help investors, some sites have predefined stock screens, which have their variables already entered.

The following sites offer some of the better predefined screens (these are just a few examples of what's out there):

Yahoo Finance - This site includes nearly 20 predetermined screens covering a large array of investment strategies, including 'strong forecasted growth', 'large-cap value ', 'small-cap growth ', and ' Dogs of the Dow '. The search criteria of each predetermined screen are clearly explained so you can understand the screens' underlying principles.

MSN Money - This site includes 10 predetermined searches. All of the searches are also clearly explained and cover various strategies, such as the contrarian strategy, and fundamentals , such as the highest dividend-yielding stocks on the S&P 500.

Morningstar - This site covers a range of trading strategies but also includes a search based on Morningstar stock ratings. By searching according to these ratings, you are accessing analyst research on the quality of a company. Things to Watch Out for When Using Stock Screeners

Although they are useful tools, stock screeners have some limitations. Here are some things you should keep in mind:

Most stock screeners include only quantitative factors. There are still many qualitative factors to keep in mind: no screener provides information about things like pending lawsuits, labor problems or customer-satisfaction levels.

Screeners use databases that update on different schedules. Always check how fresh the data is - if a screener's data isn't timely, your search could be meaningless.

Watch for industry-specific blind spots. For example, if you are searching for low P/E valuations, don't expect very many tech companies to show up. Conclusion

Remember, stock screeners are not the "magic pill" for selecting stocks. Nothing will ever replace good old-fashioned nose-to-the-grindstone research. However, screens can be a good place to start your research process as they can save time and narrow your options down to a more manageable group.

By Investopedia Staff (Investopedia.com)