Two Ways to Check Your Stocks' Credit Scores

If you watch any television at all, you probably can't escape those unbelievably obnoxious commercials for credit reports. I mean, I feel for the guy in the ad, working in a tourist-trap fish joint, living in his wife's parents' basement and driving a beater, all because he failed to keep track of his credit score, but enough already!

Obnoxious as they are, the commercials do make a good point. Keeping track of the changes in your credit score is a good idea, and everyone should do it. Tracking the changes can help you see what you are doing right, as well as wrong, with your financial habits. Now, if it makes sense for your personal finances, doesn't it make sense to do the same with your stock portfolio?

It makes even more sense when dealing with value and distressed stock situations. Legendary value investor Chares Brandes did a study a few years ago that tracked the results of what he called the "falling knife" stocks. The study (along with a lot of other great financial market research papers) can be found by going to the Brandes Web site and clicking on the "Institute" pages.

The study has two very important findings. Brandes defines a falling knife as a stock that has fallen 60% or more over the past 12 months. Flying in the face of the old Wall Street adage, the study concludes that for a long-term investor, buying these stocks is actually a very good idea. In fact, for long-term investors who are willing to hold them three years, they more than doubled the performance of the market as a whole.

The other important finding was not really a surprise. The biggest drag on performance for the falling knives, as a group, was bankruptcy. Over the 20-year time period encompassed by the study, almost 10% of the companies ended up filing bankruptcy. Imagine what would happen if we could eliminate that dangerous 10% and concentrate on the survivors? Performance would increase dramatically!

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Tim Melvin is a writer from Stevensville, Maryland, who spent 20 years a stockbroker, the last 15 as a Vice President of Investments with a regional firm in the Mid Atlantic area. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. Melvin appreciates your feedback; click here to send him an email.