Zacks Method For Trading:: Home Study Course Workbook

Zacks Method for Trading:
Home Study Course Workbook
© 2010 Zacks Investment Research

All Rights Reserved.
Zacks Method for Trading: Home Study Course Workbook
Disclaimer
The performance calculations for the Research Wizard strategies were produced through the backtesting feature of the
Research Wizard using the DBCMHIST database and consist of the total return (price changes + dividends) of an
equal weighted portfolio. Returns are calculated on a specified periodic basis (most often one or four weeks) and assume no
transaction costs. The portfolio is rebalanced at the start of each new period. Returns can be stated as either annualized or
compounded.
Stock trading/investing involves risk and you can lose some or all of your investment. Hypothetical or backtested
results may not always be duplicated in the real world. Backtesting can at times produce an unintended look-ahead bias.
Results can also at times be over or understated due to the exclusion of inactive companies. In addition, hypothetical
trading does not involve financial risk, and no hypothetical trading record can completely account for the impact of financial
risk in actual trading, not the least of which is the ability to withstand losses or to adhere to a particular trading strategy in
spite of trading losses. These are material points which can also adversely affect actual trading results. The backtested
results prepared for these materials were done using the DBCMHIST database and consisted of only active companies.
The Research Wizard program has been aligned, to the extent possible, to eliminate look-ahead bias. Zacks however cannot
make any guarantees in regard to this or any other possible limitation. For more information on backtesting, please go to:
http://www.zacks.com/performance.
The performance of the Zacks Rank portfolios for annual and year-to-date periods are the linked monthly total returns
(price changes + dividends) of equal weighted hypothetical portfolios, consisting of those stocks with the indicated Zacks
Rank, assuming monthly rebalancing and zero transaction costs. These are not the returns of actual portfolios. The
hypothetical portfolios were created at the beginning of each month from January 1988 forward based on the values of the
Zacks Rank available to Zacks' clients before the beginning of each month. The portfolios created monthly from 1988
through September 2006 exclude ADRs and are comprised of stocks that have the indicated Zacks Rank and were covered
by at least two analysts at the time of the stocks inclusion in the portfolio. Starting in October 2006 and going forward, the
portfolios are comprised of all stocks with the indicated Zacks Rank and do not exclude ADRs, which is more reflective of the
list of stocks that customers will find on the Zacks web sites. These performance numbers have been audited from 1995 through
2003 by Virchow, Krause & Company, LLP.
The S&P 500 Index ("S&P 500") is a well-known, unmanaged index of the prices of 500 large-company common stocks selected
by Standard & Poor's. The S&P 500 includes the reinvestment of all dividends, no transaction costs, and represents the gross
returns before management fees.
ii © 2010 Zacks Investment Research All Rights Reserved.

Disclaimer
iii
iv © 2010 Zacks Investment Research All Rights Reserved.

Table of Contents
Table of Contents
Disclaimer . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .ii
Table of Contents . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .v
Symbol Guide . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .xi
Introduction
The Zacks Method for Trading . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .1
Introduction to the Zacks Method for Trading: Home Study Course . . . . . . . . . . . . .2
• Becoming a Better Trader . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2
Zacks Method for Trading . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .4
• Identify . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .4
• Analyze . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .5
• Manage . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .5
The “I AM” Goal . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .6
Research Wizard Overview . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .6
Lesson 1
Trading the Zacks Rank . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .9
Trading the Zacks Rank . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .10
• Assignment: The Zacks Rank Guide . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .11
Harnessing the Power of Earnings Estimate Revisions . . . . . . . . . . . . . . . . . . . . .12
• Generating Positive Results . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .13
• Zacks Rank versus the S&P 500 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .14
How the Zacks Rank Model Works . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .15
• Distribution of the Zacks Rank . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .17
• Average Broker Rating . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .18
Four Factors behind the Zacks Rank . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .20
• Agreement . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .21
• Magnitude . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .21
• Upside . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .21
• Surprise . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .21
• Calculating the Zacks Rank . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .21
v
Table of Contents, cont’d.
Lesson 2
Beyond the Zacks Rank . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .25
Beyond the Zacks Rank Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .26
• Zacks Investment Management or Research Wizard . . . . . . . . . . . . . . . . . . . .26
The Filtered Zacks Rank . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .27
The Filtered Zacks Rank: Trading the Strategy . . . . . . . . . . . . . . . . . . . . . . . . . .31
Narrowing Down the Number of Stocks Even More . . . . . . . . . . . . . . . . . . . . . . .33
• The Filtered Zacks Rank2 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .33
Upgrades and Revisions2 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .34
• Upgrades and Revisions2: Trading the Strategy . . . . . . . . . . . . . . . . . . . . . . .39
• More Upgrades and Revisions . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .40
Return on Equity2 (ROE2) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .41
Lesson Snapshot . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .44
Lesson 3
Creating Screens and Trading Strategies and Backtesting Them for Success . . . . .47
Creating Your Own Screens . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .48
• More than Proven, Profitable Strategies . . . . . . . . . . . . . . . . . . . . . . . . . . . .48
The Research Wizard . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .49
The Importance of Screening and Backtesting . . . . . . . . . . . . . . . . . . . . . . . . . . .50
Backtesting . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .51
Step 1: Identify . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .53

Fundamental Trading Styles . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .54
• Momentum . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .54
• Aggressive Growth . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .55
• Value . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .55
• Growth & Income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .55
• ‘All Style’ Style . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .55
Big Money—Price Momentum Screen . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .57
Aggressive Growth Screen . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .59
Value Screen . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .60
vi © 2010 Zacks Investment Research All Rights Reserved.

Table of Contents
Growth & Income Screen . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .62

‘All Style’ Style . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .63
• Growth and Value . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .63
Ranking Parameters . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .65
Hot Maps . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .67
How to Use Hot Maps . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .69
Changes in the Zacks Rank . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .70
Step 2: Analyze . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .71

How to Backtest Using the Research Wizard . . . . . . . . . . . . . . . . . . . . . . . . . . . .71
Backtesting Example Using the Best Buys Strategy . . . . . . . . . . . . . . . . . . . . . . .72
Step 3: Manage . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .74

How to Trade the Strategies . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .74
The Trading Strategy Process . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .75
Determining the Holding Periods . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .76
Other Rebalancing Methods . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .77
Stop Loss Orders . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .78
Lesson Snapshot . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .83
Lesson 4
Advanced Backtesting and Screening . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .87
Introduction to Advanced Backtesting . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .88
• The Main Features . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .89
Automated Robustness Analysis (Best Case / Worst Case Analysis) . . . . . . . . . . . .90
• Robustness Analysis Checker . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .91
Introduction to the Combo Backtesting Feature . . . . . . . . . . . . . . . . . . . . . . . . . .96
What is Combo Backtesting? . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .97
Testing for Optimal Valuations with the Combo Backtester . . . . . . . . . . . . . . . . . .98
• The Power and Convenience of the Research Wizard . . . . . . . . . . . . . . . . . . .99
vii
APPENDIX
The Zacks Rank Guide . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .A1
Zacks and the Zacks Rank . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .A2
Who Are Institutional Investors? . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .A3
Where Do Earnings Estimates Come From? . . . . . . . . . . . . . . . . . . . . . . . . . . . .A4
Consensus Estimates . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .A5
The Zacks Rank . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .A6
The Four Factors behind the Zacks Rank . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .A7
The Zacks Rank Performance . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .A7
How the Zacks Rank Predicts Price Movement . . . . . . . . . . . . . . . . . . . . . . . . . . .A9
Price Spikes and the Zacks Rank . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .A11
Why a Stock May Lose Its #1 Rank . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .A12
Integrating the Zacks Rank into Investment Strategies . . . . . . . . . . . . . . . . . . .A13
The Difference Between ABR and The Zacks Rank . . . . . . . . . . . . . . . . . . . . . . .A14
Limitations of the Zacks Rank . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .A15
viii © 2010 Zacks Investment Research All Rights Reserved.

Table of Contents
ix
x © 2010 Zacks Investment Research All Rights Reserved.

Symbol Guide
Symbol Guide
To assist you in the use of this Zacks Method for Trading: Home Study Course Workbook, icons
have been used to identify specific areas of interest. They include:
Assignment: Identifies areas that require completion before moving on to the next
lesson in the workbook.
Exercise: Identifies activities or exercises used to review or test your knowledge in

the application of the tools or strategies.
Key Point: Identifies objects, lessons, main ideas or terms to help you gain expertise
while developing strategies for trading.
Lesson: Designates practical information helpful in gaining knowledge and understanding

of the Zacks Method for Trading in the stock market.
Notes: Indicates an area provided in your workbook allowing you to take notes and record
additional information from your personal studies.
Objectives: Identifies information as well as targeted areas for discussion to be covered

during your home study course.
Lesson Snapshot: Provides a brief summary or recap of topics or concepts covered

in the lesson.
Web Address: Indicates a website or web address with supporting information or

additional resources to help develop your skills.
xi
xii © 2010 Zacks Investment Research All Rights Reserved.

Introduction—
The Zacks Method for Trading
Objectives
The objectives for this lesson include:
• Introduction to the Zacks Method for Trading:

Home Study Course
– Becoming a Better Trader
• Zacks Method for Trading
Z
– Identify
– Analyze
– Manage
A
• The “I AM” Goal
• Research Wizard Overview
C Assignments and Exercises
K The following assignments will help you in understanding the

information in this lesson:
S
• Watch DVD Disc 1: Introduction to the Zacks Method
for Trading and Welcome by Len Zacks
Plan to devote a minimum of 15-30 minutes per day to completing the assignments and exercises for
each lesson. It is imperative to spend time educating yourself about the market in order to have long-
term success and consistency in profitable investing.
1
Introduction to the Zacks Method for Trading:

Home Study Course
Becoming a Better Trader

In this home study course, we are going to show you how you can become a better trader by
using some of Zacks’ most proven, profitable trading strategies using fundamental information.
We are also going to show you how you can create your own trading strategies and how
to backtest them to confirm that they work. We’ll be using the Zacks Research Wizard stock
picking and backtesting program to demonstrate this, so you can begin using the Zacks Method
in your own trading.
Throughout these lessons, we are going to help you develop the life skills to make more money
in the market, so you can live the kind of life you want to live and to have the kind of freedoms
and choices that come with greater financial success.
You will also be able to identify the kinds of stocks to buy that have the highest probability of
success—and when to sell to maximize your returns. We are also going to show you how you
can minimize your risk while doing so.
You are also going to see that it’s a lot easier than you think. And you won’t have to stay glued
to your computer screen either to do it. The Zacks Method for Trading: Home Study Course is
going to provide you with real-life, practical and actionable information and strategies, that you
can start using immediately. It really comes down to just three things ...
Notes
2 © 2010 Zacks Investment Research All Rights Reserved.

Introduction—The Zacks Method for Trading
Zacks Method for Trading
~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~
Notes
The return numbers presented assume no transaction costs. Details of how Zacks calculates
performance for the Zacks Rank Portfolios and the backtested strategies can be found on 3
page ii and at http://www.zacks.com/performance.
Zacks Method for Trading

Identify, Analyze and Manage
Identify
What kind of trader you are (or what kind of trader you want to be) and what kind of
strategies and stocks you want to get into.
• Are you a Momentum Trader or do you look for Value Stocks? Are you an
Aggressive Growth Trader or are you looking for Growth and Income?
Perhaps you’re a little bit of everything.
• Are you looking to simplify your life and increase your returns by trading one of
Zacks’ proven, profitable strategies?
• Or do you want to create your own screens and trading systems and test it all to
make sure it works?
Notes

Using the Zacks Method for Trading and the Research Wizard makes it easy to identify the
stocks you should add to your portfolio.
Analyze
You don’t have to turn yourself into an analyst because the Research Wizard will do
the analysis for you. And it can be as easy as clicking a button.
The hardest part that keeps people from paying attention to their portfolio the way they should
has now been made simple and easy; without any guesswork and without any headache.
Manage
We’re going to show you how to easily manage your investments for greater success.
And you’ll see it doesn’t have to be difficult or time consuming to do it.
Your investments are probably the largest, most important chunk of money you will ever be
responsible for in your entire life. We’re going to show you the Zacks Method for Trading to
better take care of it.
~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~
Notes
The “I AM” Goal
Research Wizard Overview
As you may already know, the Research Wizard is the dynamic screening and backtesting
software from Zacks Investment Research. And it's as powerful as it is easy to use. In short,
the Research Wizard gives you access to some of Zacks’ most proven, profitable trading
strategies. It also let’s you create and backtest your own stock picking and trading strategies.
The program comes loaded with over 8,600 stocks in its Universe. You can pick and choose
from over 650 different, fundamental data items. There’s also a Calculation Expression feature
that allows you to create your own custom calculations—comparing one item to another,
combining different items together and even comparing an item’s value to its value from a
different time period. The program also gives you access to years of historical data.
Notes

Probably half of the customers who buy the Research Wizard use it for the tool that it is—they
want to search for stocks, do their own research and test it all to make sure it works. The other
half buy the program because they want to trade the proven profitable trading strategies that
Zacks has already created.
However, once customers and students have used the program, many find themselves doing
a little bit of both. Either way, the Zacks Method for Trading is designed to help you develop the
skills to make more money in the market and to become a more confident trader in the process.
Lesson One—Trading the Zacks Rank
Notes

Lesson One—
Trading the Zacks Rank
Objectives
• Trading the Zacks Rank

• Harnessing the Power of Earnings Estimate Revisions
• How the Zacks Rank Model Works
Z
• The Four Factors behind the Zacks Rank
– Agreement
– Magnitude
– Upside
A
– Surprise
C
Assignments and Exercises
The following assignments will help you in understanding the
K
• Watch DVD Disc 2: Trading with the Zacks Rank
S
• Read The Zacks Rank Guide
9
One of the simplest and one of the best strategies for trading is to buy the stocks that have a
Zacks Rank of 1 and sell them when they’re no longer a #1 Rank (i.e., have a Zacks Rank of
2, 3, 4 or 5). Since 1988, simply buying the Zacks #1 Rank stocks and selling them a month
later if they’re no longer Ranked a #1 has shown an average annual return of about 32%.
This is in stark contrast to the S&P 500’s approximate return of only 12%. In fact, $10,000 back
in 1988, using this strategy (just the Zacks #1 Rank stocks), would have compounded into over
$1,961,825 for a 19,518% increase (gross).
But before we go any further, in order to fully understand why this strategy works so well, it’s
important to understand what the Zacks Rank is and how it’s calculated.
Notes

Key Point–
A $10,000 trading account in 1988 using the Zacks Rank would have
compounded into over $1,961,825, for a 19,518% increase (gross).
The Zacks Rank vs the S&P 500
~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~
(Optional) Assignment—The Zacks Rank Guide
Read The Zacks Rank Guide included with this course. See the Appendix at the end of this
workbook.
Notes
Key Point–
The Research Wizard makes finding the right stocks and trading them simple
and easy. Whether you’re a beginner or a seasoned pro, the Research Wizard
can help you with virtually all of your trading needs and goals.
Harnessing the Power of Earnings Estimate Revisions
The foundation of the Zacks Rank is based on earnings estimate revisions. Stocks with rising
estimates, as a group, have outperformed the S&P 500 year after year. While stocks with falling
estimates have underperformed the S&P 500 year after year. The stocks most likely to
outperform are the ones whose earnings estimates are being raised. And the stocks most likely
to underperform are the ones whose earnings estimates are being lowered.
The Zacks Rank

Notes

Zacks (through the Zacks Rank) has made the process of identifying stocks with changing
earnings estimates easy and very profitable. Since 1978, Zacks has been compiling and
analyzing brokerage research for both institutional and individual investors.
Today, we process information from roughly 3,000 analysts from over 150 different brokerage
firms. And at any given point in time, we’re monitoring well over 200,000 earnings estimates and
other related data, looking for any change.
Our ability to gather, analyze and distribute this information on a timely basis, makes Zacks re-
search among the most widely used investment research. Zacks performance of course is an-
other reason. And as mentioned earlier, a portfolio constructed of just the Zacks #1 Rank stocks
has generated an average annual return of about 32%.
Generating Positive Results
Even during the bear market of 2000, 2001 and 2002, this strategy generated positive returns.
The Zacks Rank

Notes
The compounded returns of the Zacks #1 Rank stocks during one of the worst bearish periods
in recent history was actually up 43.77%. The S&P 500 during that same bear move lost 37.6%.
Zacks Rank versus the S&P 500
On a $100,000 account, that’s the difference between a $43,774 gain and a $37,602 loss. That’s
over an 81% difference in fortune or a difference of more than $81,000.
Imagine if you were considering retirement during those three years? What if you had you been
on the negative side that? In reality, that bearish period forced some people to postpone their
retirement. Or worse, changed how they planned on living out their retirement years altogether.
On the other hand, if you were on the winning side of that equation, the difference was huge.
The Zacks Rank vs. S&P 500

(2000 through 2002)
Notes

How the Zacks Rank Model Works
The Zacks Performance Rank, which is the core of the Zacks investment philosophy, has
delivered annualized returns of about 32%. It is a proprietary quantitative stock ranking model
based on the pattern of revisions in analysts' earnings estimates.
Through years of quantitative study, we have demonstrated that the changes that analysts make
today to their earnings estimates are strong and accurate predictors of future stock performance.
We then use this information to classify stocks into five groups:
#1 – Strong Buy
#2 – Buy
#3 – Hold
#4 – Sell
#5 – Strong Sell
But don’t confuse this with what the brokers do, as it couldn’t be more different. First, the Zacks
Rank is proportionately applied to the approximate 4,400 stocks for which sell-side analyst
estimates are available.
What is meant by “proportionate” is that only the top 5% of the stocks assigned a Zacks Rank
can receive the coveted position of a Zacks #1 Rank – Strong Buy. It’s also important to know
that the same number of stocks are assigned a Zacks #5 Rating – which is a Strong Sell.
This equality between Strong Buy and Strong Sell recommendations makes the Zacks Rank a
much more reliable indicator than the typical brokerage recommendations. In general, broker-
age recommendations are significantly biased towards “Buy” ratings with a reluctance to say
“Sell”. This same reluctance let many people down during the market meltdown between 2000
and 2002.
Notes
The Zacks Rank

The Zacks Rank Model
• A Zacks #1 Rank (or Strong Buy) should outperform the market the most.
(And by market, we are using the S&P 500 as this benchmark, since it’s one of the
most commonly used benchmarks for referencing the market.)
Notes

• A Zacks #2 Rank (or Buy) should outperform the market.

• A Zacks #3 Rank (or Hold) should perform in line with the market.
(The market’s performance over the last 19 years (since 1988) has shown an
average annual return of approximately 12%.)
• A Zacks #4 Rank (or Sell) should underperform the market.
• And a Zacks #5 Rank (or Strong Sell) should underperform the market the most.
Note: The previous table illustrates how all of the Zacks Ranks have performed.
Distribution of the Zacks Rank

You will notice too that the entire assignment of the Zacks Rank is like a bell curve – an equal
number of ‘buys’ and ‘sells’, with a larger number of ‘holds’ in the middle. (See illustration below.)
• 5% of the stocks are Ranked a #1 or Strong Buy

• 15% of the stocks are Ranked a #2 or Buy
• 60% of the stocks are Ranked a #3 or Hold
• 15% of the stocks are Ranked a #4 or Sell
• 5% of the stocks are Ranked a #5 or Strong Sell
Distribution of the Zacks Rank Graph
Notes
As you can see, the Strong Buys are Buys together make up 20% of the recommendations.
And the Sells and Strong Sells make up an equal 20% of the recommendations. Accurately
outperforming and underperforming the market accordingly. The ‘bell curve’ distribution
of the Zacks Rank is in sharp contrast to the distribution of broker ratings, as you will see in a
moment. The Zacks Rank always has the same number of “strong buy” and “strong sell”
recommendations, whereas broker ratings are biased towards “strong buy” and “buy”.
Key Point–
The Zacks Rank is a more powerful indicator than broker ratings. The Zacks
Rank looks at earnings surprises and revisions in earnings estimates.
Additionally, the Zacks Rank always has the same number of “strong buy” and
“strong sell” ratings.
Average Broker Rating

The distribution of the Average Broker Rating (as illustrated below) is somewhat lopsided.
• 16% of stocks with a broker rating have an average rating of Strong Buy
• 44% have an average rating of Buy
• 35% have an average rating of Hold
• 4% have an average rating of Sell
• Only 1% have an average rating of Strong Sell
Distribution of Broker Rating
Notes

The combined average broker ratings of Strong Buy and Buy equal 60% of all the broker
ratings, while the combined average broker ratings of Sell and Strong Sell amount to only 5%
of the stocks. Unfortunately, 60% of the stocks do not outperform the market and far more than
5% underperform the market. To be fair, the average broker rating can be useful, but it’s the
change in the rating that carries the most value.
While analysts are not usually great at making subjective buy and sell predictions, they are
good at providing earnings estimates. There’s a reason why brokerage companies literally spend
billions of dollars a year on analysts to research stocks.
These analysts must know something. And they do. The typical analyst at a brokerage firm will
work 80 hours a week – devoting all of his/her time to at most, around 20 companies. Many
companies are followed by 5 to 10 analysts or more. One of the main tasks of an analyst is to
determine a company’s earnings.
This is where the analysts excel -- not in their ratings, but in their earnings estimates.
Earnings Matter
The reason why earnings matter is because at the end of the day, earnings are what gives a
stock its intrinsic value. And when trying to determine the future direction of a stock’s price move,
you need to look at what a company will earn in the future. This is why earnings expectations
(or earnings estimates) are so important. And it’s the changes in the earnings estimates that
have proven to be the most important.
Why? Because stocks that receive upward earnings estimate revisions are more likely to receive
even more upward earnings estimate revisions in the future. This is true because many analysts
will revise their earnings estimates slowly and incrementally.
For example, if an analyst raised his earnings estimates last month, he’s likely to do it again this
month. And other analysts are likely to do the same. Since stock prices respond to earnings
estimate revisions, it’s very profitable to buy stocks whose estimates are being raised. And by
getting into stocks whose earnings estimates are being raised, you’re likely getting into
companies whose future earnings estimates will be raised as well, potentially influencing stock
prices even more.
Notes
As a result, stocks receiving upward earnings estimate revisions tend to outperform over the
next one to three months.
Four Factors behind the Zacks Rank
The Four Primary Inputs

How Does Zacks Use Earnings Estimates and Earnings Estimate Revisions in the Zacks Rank?
The Zacks Rank is calculated from four primary inputs:
• Agreement • Magnitude
• Upside • Surprise
The Four Factors behind the Zacks Rank
Notes

Agreement
The extent to which all brokerage analysts are revising their EPS estimates in the same
direction. The more analysts that are revising estimates upward, the higher the Zacks Rank.
Magnitude
The size of recent changes in the consensus estimate for the current fiscal year and the next
fiscal year. For example, an earnings estimate revision that causes the consensus estimate to
increase by 5% is a more powerful signal than an earnings estimate revision that causes a 2%
rise in the consensus estimate.
Upside
This is the difference between the most accurate estimate and the consensus estimate.
Surprise
The Zacks Rank factors in the last quarter’s EPS Surprise as well. Companies with a positive
earnings surprise are more likely to surprise again in the future (or miss again if recently missed).
Calculating the Zacks Rank
Each one of these components is given a raw score. Zacks recalculates the scores every night
from all of the data received from over 3,000 analysts at over 150 brokerage firms.
These raw scores are then compiled into the Zacks Rank and are made available to investors
every day, helping them beat the market.
Key Point–
The compounded returns of the Zacks #1 Rank stocks during one of the worst
bearish periods in recent history was actually up 43.77%. The S&P 500 during
that same bear move lost 37.6%.
Notes
Earnings Estimate Revisions
Key Point–
The Zacks Rank looks at Earnings Estimates Revisions for the current year and
the next year.
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Notes

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Lesson Two—
Beyond the Zacks Rank
Objectives
• Zacks Investment Management or Research Wizard

• The Filtered Zacks Rank
• Narrowing Down the Number of Stocks Even More
Z
• Upgrades and Revisions2
• Return on Equity2
A Assignments and Exercises
C The following assignments will help you in understanding the

K
• Watch DVD Disc 2: Trading with the Zacks Rank
• Complete Exercises 2.1 - 2.7
S
25
Beyond the Zacks Rank
Introduction
While the Zacks Rank has proven itself to be one of the best rating systems available, there’s
only one drawback to stopping at ‘just’ the Zacks Rank. And that is…
• over 200 stocks are assigned a Zacks #1 Rank on any given day making it virtually
impossible for most traders to trade them all.
One solution that has been selected by over 3,000 investors so far is to have Zacks Investment
Management, a Registered Investment Advisor that is registered with the SEC, make the
trading decisions for you. The other solution, also selected by over 10,000 traders and investors,
is to use the Research Wizard to narrow that list of 200+ stocks down to a smaller, more
manageable number of stocks for a real life portfolio.
Zacks Investment Management or Research Wizard
The starting point for Zacks Investment Management was the book Ahead of the Market by
Mitch Zacks, (Harper Collins, 2003). Mitch is a Senior Portfolio Manager at Zacks Investment
Management.
Zacks Investment Management, the investment management arm of Zacks Investment

Research, has an account minimum of $250,000. If your portfolio is larger than this amount and
you would rather have Mitch and his team manage your investments, you will receive a full
credit for the cost of this Home Study Course.
Now that we have made you aware of the Zacks Investment Management option, let’s focus on
how you can use the proven, profitable strategies within Research Wizard to illustrate how you
can begin trading the Zacks Rank right away.
Notes

Lesson Two—Beyond the Zacks Rank
The Filtered Zacks Rank

(A Practical Method for Trading the Zacks Rank)
The Filtered Zacks Rank screen adds two additional items to the Zacks #1 Rank stocks. These
two items, when added to the list of Zacks #1’s, not only narrow the number of stocks to a more
practical portfolio size (around 10-12 stocks), but often increase performance as well.
This strategy comes loaded with the Research Wizard program and, like all of the strategies that
come with the program, is very easy to use.
~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~
Exercise 2.1: The Strategy

Follow along with the procedure on your DVDs. Then, duplicate the steps illustrated by the
instructor. The parameters for the screen are listed on the following page. Record your notes in
the space provided.
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Parameters for the Screen
The first item applied to the list of the Zacks #1 Rank stocks is:
1. The % Change in Current Quarter Earnings Estimates over last 4 weeks > 0
The Zacks Rank already looks at Earnings Estimates Revisions for the Current Year
and the Next Year. This added component looks at the more immediate future which
is the Current Quarter.
Notes

The next item is:
2. The % Change in the Average Broker Rating over the last 1 week > 0
This parameter looks for a positive Broker Rating Change or an Upgrade over the
last week.
Since broker ratings are typically skewed to the upside, we want to make sure that the brokers
are more bullish or at the very least, not getting less bullish (or bearish) on the stock. These two
items added to the Zacks #1 Rank Stocks produce powerful results!
Key Point–
These two items added to the Zacks #1 Rank Stocks produce powerful
results! For a great and reliable way to trade some of the best of the Zacks
#1 Rank stocks, try the Filtered Zacks Rank and trade fewer stocks for even
bigger returns.
Notes
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Exercise 2.2: Strategy Results

Refer to the DVDs. Listen to the instructor as he explains the results of the screen. Record your
notes in the space provided.
Notes

Trading the Strategy

Trading this strategy is quite simple. You’ll run your screen only once a month (actually every
four weeks). On the first week – Monday morning – buy all the stocks that make it through your
screen. This will be approximately 10 stocks. Each stock should be purchased with an equal dol-
lar amount. In other words, an equal amount of money would be put into each stock for an equal
dollar-weighted portfolio.
You’re then going to hang on to these stocks for the duration of the holding period—which in this
case is four weeks. Four weeks later, run the screen again and see what stocks come through.
This time, you’ll keep the stocks that still qualify, sell the ones that no longer qualify (whether it
be at a profit or a loss – sell them) and buy any new stock(s) that comes through. That’s all you
have to do!
Notes
Review
For your first time:
1. Run your screen on Monday morning.
2. Buy the stocks that come through, putting an equal amount of money in to each one.
3. Hang on to those stocks for four weeks.
Then:
1. Every four weeks, you’ll run your screen again.
2. Sell the stocks that no longer qualify and buy any new ones that do.
3. Hang on to those for four weeks.
Four weeks later – do it again. It’s that easy!
Key Point–
The same process applies if you prefer to follow a shorter time period (i.e., one
or two weeks) or a longer time period (i.e.,12 weeks or longer). Simply add and
delete your stocks at the start of each new trading period.
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Exercise 2.3: Practice Trading the Strategy
Follow the trading strategy on the DVDs. Practice trading the same strategy. Record your notes
in the space provided.
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Notes

Narrowing Down the Number of Stocks Even More
The Filtered Zacks Rank2
For some people, 10 stocks might be too many—especially if you’re just starting out with a
smaller account. If that’s the case, you can narrow your search down even more by changing
the operator in the last parameter.
Instead of just saying > 0, meaning there has to be an upgrade in the average broker rating, you
can use the operator called ‘Top #’ and enter ‘5’, meaning now you’re picking the five stocks with
the largest (best) average broker rating change.
Now the screen will always only give you five stocks to hold in your portfolio at a time. This
strategy also comes loaded with the Research Wizard and is called the Filtered Zacks Rank2.
The same great returns with even fewer stocks.
This strategy also does great when you trade it on a weekly basis as well. And having only five
stocks to trade makes weekly rebalancing even easier.
Key Point–
The Filtered Zacks Rank strategies (both 1 and 2) already come pre-loaded
with the program. So getting started is as easy as pointing and clicking your
mouse.
The Filtered Zacks Rank strategies are only two of many proven, profitable strategies included
with the Research Wizard.
In the next section, we will go over some of the other strategies, but before we do, let’s take a
look at the Research Wizard where all of these strategies were created and where you can go
to get them.
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Notes
The Filtered Zacks Rank2
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Upgrades and Revisions2
A Winning Strategy for Beating the Market
This strategy focuses primarily on stocks with Upward Earnings Estimate Revisions and
Rating Upgrades–similar to the Filtered Zacks Rank–but the similarities end there. In fact, this
method by far, has the most hoops to jump through and the cumulative effect it has on finding
the right stocks makes it one of the most ‘rock-solid’ strategies!
There are actually a few variations to this method, but this one is probably the most popular one.
It generates an average of 8-10 stocks per run, has an excellent win ratio and has shown
consistently impressive returns year after year after year.
Notes


Follow along with the procedure on the DVD presentation. Refer to the parameters listed below.
Then, duplicate the steps illustrated by the instructor. Record your notes in the space provided.
Parameters
• Zacks Rank = 1 (Strong Buy)

(Only Zacks’ best ranked stocks are allowed through.)
• % Change in Current Quarter Estimates over the last 4 weeks >= 0
(Earnings with fresh upward revisions—or at the very least, no downward revisions.)
• % Rating Change in the Average Broker Rating over 4 weeks >= 0
(Since analysts have an upside bias, anything remotely downgraded is excluded.)

(A Winning Zacks Method for Beating the Market)
Notes
These first three items are similar to the Filtered Zacks Rank. Although the operator of ‘>=’
(greater than, equal to) in this screen is more inclusive than the absolute operator of just ‘>’
(greater than) in the other.
But the similarities end there. This larger list of stocks is then put through the wringer with
demands from the following items:
• P/E using 12 mo. Forward EPS Estimates <= 65

(Our studies have shown that stocks with P/E ratios of up to 65, outperform those
with P/Es of over 65. So to increase our probabilities of success, we’ve drawn the
line at 65.)
• % Change Actual EPS Q(0)/Q(-1) >= 0

(Positive EPS Growth last quarter over one quarter ago.)
• % Change Actual EPS Q(-1)/Q(-2) >= 0

(Positive EPS growth one quarter ago over two quarters ago.)
In other words, two quarters of positive EPS growth.
• % Change Actual EPS F(0)/F(-1) >= 0

(Positive EPS Growth last year over the year before that.)
• 5 Year Historical EPS Growth Rate >= 17

(The average stock in the Zacks Universe has a five-year historical growth rate
of approximately 15%. This screen finds those stocks with a growth rate above
that threshold.)
• Last EPS Surprise >= 0

(No negative surprises allowed. Companies that have recently surprised in the
past have a tendency to surprise again in the future.)
• Price to Sales Ratio <= 4

(We’ve had great success with the Price to Sales ratio being between 2, 3 and 4.
In general, a lower Price to Sales ratio is better than a higher one. But for this screen,
we selected 4 because it didn’t narrow the stock selection too much.)
Notes

• Price >= 3
(All the stocks have to be trading at a minimum of $3 and higher. Although, with
all the items above, the typical pick has an average stock price of usually $30 and
higher.)
Over the last six years, this strategy has shown an average annualized gross return of 49.15%
a year, with an average win ratio of 72%. And again, it produces on average of 8-10 stocks for
your portfolio each month.
Exercise 2.5: The Results

Notes
For further illustration, a continuous backtest over the last six years was run starting on 1/5/01
and going through 12/31/06, rebalancing the portfolio every four weeks and then compounding
the returns each period to greater simulate how one would invest.
Key Point–
Over the last six years, this strategy has shown a total compounded gross
return of 766.7%. On a $10,000 investment, that's an increase of $76,670.

~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~
Notes


Trading this strategy is just as easy as trading the previous strategies.
First:
1. Simply run your screen once every four weeks.
2. On Monday morning, buy all the stocks (in equal dollar amounts) that made it through
your screen.
3. Hang on to those stocks for the duration of the holding period (in this case, four weeks).
Notes
Then:
1. Four weeks later, run the screen again.
2. Rebalance your portfolio:
• Keep the stocks that still qualify.
• Sell the ones that no longer qualify.
• Buy any new stocks that come through the screen.
3. Hang on to those stocks for the next four weeks.
Four weeks later – do it again.
Key Point–
Since there are only 13, four-week periods in a year, you’ll only have to trade
13 times a year.
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More Upgrades and Revisions
There are two other versions of the Upgrades and Revisions strategy available in the Research
Wizard as well. One of the versions generates on average of only 4-5 stocks per period as
opposed to 8-10. All of the parameters are the same except that the Zacks Rank of 1 has to be
new or no more than four weeks old—meaning the stocks had to have a Zacks Rank of a #2 or
higher four weeks ago and have since been changed (or upgraded) to a Zacks #1 within the last
four weeks.
This change will increase your turnover rate, since every four weeks a completely new list of
stocks is generated. But you’re going to have fewer stocks in your portfolio to begin with.
Notes

Return on Equity2 (ROE2)

Zacks Rank + ROE = Great Returns
The Return on Equity2 strategy uses the ‘Return on Equity’ measure (or ROE) as one of the
main components layered on top of the Zacks Rank. The Return on Equity item is one of the
quickest ways to gauge whether a company is creating assets with investors’ cash or gobbling
it up. Very simply:
• Return on Equity = income / common equity
For instance, if the ROE is 10%, then ten cents of assets are being created for each $1 in share-
holder equity. This ratio is always expressed as a % and the higher the number, the better.
Knowing the company is generating assets on invested capital rather than burning through it,
is important to know.
Let’s take a look at the parameters that go into this screen.
Notes

Parameters
• Zacks Rank = 1
First, narrow the Universe to Zacks #1 Rank stocks.
• ROE >= 10
The median ROE value for all of the stocks in the Zacks Universe is right around 10%.
Therefore, any company under this benchmark is disqualified.
Notes

• Price to Sales <= 1

A low Price to Sales ratio (1.0 and below) is usually thought to be of better value,
since the investor is paying less for each unit of sales.
Price to Sales Ratio is simply: Price / Sales

It tells you how much you’re paying for each dollar of sales the company makes.
And paying less than a dollar, for a dollar’s worth of something, is a good value.
• Price >= 5
Only stocks trading at a minimum of $5 or higher can make it through the screen.
Since many money managers won’t touch anything under $5, this makes sure the
picks can get on their radar screen.
• % of Broker Ratings that are Strong Buys = Top # 5

After all of the above items are met, this item looks for the Top 5 stocks with the
highest % of brokers rating it a Strong Buy.
And as we mentioned earlier, since broker ratings are typically skewed towards
the ‘buy’ side, we’re limiting the picks to only the ones where the brokers are the
most fully on board.
Exercise 2.7: The Results

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Notes
Lesson Snapshot
In this lesson, we covered several strategies to show you how to narrow the list of 200+, Zacks
#1 Rank stocks to a smaller, more manageable number of stocks for a real life portfolio.
There are many more strategies that come loaded with the Research Wizard program as well;
strategies that use different criteria to find different types of stocks. And any one of these proven,
profitable strategies can help you become a better trader immediately.
As you can see, you don’t have to live and breathe the markets or understand everything there
is to know about the markets to be able to make money in the markets. By understanding and
practicing sound, basic concepts as well as focusing on proven, profitable strategies that work,
you can become a more confident and profitable trader right away.
Notes:
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Lesson Three—
Creating Screens and Trading Strategies
and Backtesting Them for Success
Objectives
• Creating Your Own Screens
• The Importance of Screening and Backtesting
• Step 1: Identify
– Trading Styles
Z
• Step 2: Analyze
– How to Backtest Using the Research Wizard
– Backtesing Example Using the Best Buys Strategy
A
• Step 3: Manage
– How to Trade the Strategies
– Other Rebalancing Methods
– Stop Loss Orders
C Assignments and Exercises
K The following assignments will help you in understanding the

S
• Watch the following DVDs:
Disc 3: Screening for Stocks and Creating Your
Own Trading Strategies
Disc 4: Backtesting Your Strategies for Success
47
Creating Your Own Screens
More than Proven, Profitable Strategies
The Zacks Method for Trading and the Research Wizard program are more than just our
proven, profitable trading strategies. The Zacks Method for Trading is also about using the right
tools. The strategies highlighted in the previous lessons were all made possible by the use of
screening and backtesting. And as we mentioned before, the Research Wizard screening and
backtesting program is a complete Research Tool.
Creating Your Own Screens and Trading Systems

with the Research Wizard
Notes

Lesson Three—Creating Screens and Trading Strategies and Backtesting Them for Success
The Research Wizard:
• Is a screening and stock-picking tool

- Create your own screens and trading strategies or pick and choose from the
pre-defined screens and strategies that Zacks has already created
• Allows you to rank your stocks and Industries

- See which Sectors and Industries are the best
- See which stocks are the best in its Sectors and Industries and in your lists
• Gives you access to company reports and the ability to customize your own
- Access company reports and equity research
- Customize your own reports to see the most important data to you
- View charts and fundamental overlay studies
• Helps you manage ticker lists and portfolios
• Lets you backtest your stock picking ideas and trading strategies
- test your screens and trading strategies in all market conditions to see how they
work before you trade
It comes with:
• Over 8,600 stocks in its Universe
• Over 650 different fundamental data items to pick and choose from
• The ability to create your own customized items

- compare one item to another item
- combine different items together
- compare an item’s value to its value from a different time period
• Over 50 pre-defined screens and proven, profitable trading strategies created by Zacks
• Access to historical data
And more...
Notes
The Importance of Screening and Backtesting

You may be asking yourself, “Why should I use a Stock Screener”?
The short answer is, “Because there are over 10,000 stocks out there and you need a way to
find the good ones”.
The longer answer is: Other than buying the stocks that are talked about on TV or written about
in the paper or touted on the Internet (not to mention ‘tips’ from a friend), how else are you going
to find stocks that meet certain fundamental characteristics?
Screening—Why Should I Use a Stock Screener?

Even if you don’t use a screener now, most people still do their own ‘screening’ one way or
another. They may hear that a stock has a certain growth rate, or a certain P/E ratio or sales
surprise, etc. They then find themselves listening for or reading about or surfing the Internet for
stocks that meet this criteria.
Why Should I Use a Stock Screener?
Notes

Well, if you want to find stocks that meet certain criteria, you can find them quicker and easier
and more accurately with a stock screener. However, just because you narrowed down 10,000
stocks to only a handful, doesn’t necessarily mean that you’ve picked the best stocks. You may
have picked the worst ones. But how will you know?
Key Point–
To find stocks meeting certain criteria, you can find them quickly and easily
with a stock screener.
Backtesting
Once you’ve created a screen, you can then backtest it to see how good your screening
strategy has performed in the past. In other words, does your screening strategy generally find
stocks that go up once they’ve been identified or does your screen generally find stocks that go
down once they’ve been identified?
Backtesting
Notes
With backtesting, you can see how successful your stock picking strategy has performed in the
past, so you’ll have a better idea as to what your probability of success will be, now and in the
future.
Of course, past performance is no guarantee of future results. But if you saw a stock picking
strategy that did nothing but lose money, year after year, period after period, stock after stock,
over and over again, there’s no way you’d want to trade that particular strategy or use that
screen to pick stocks with.
Why? Because it’s proven to be a losing strategy.
One the other hand, what if you saw a strategy that did great year after year, period after
period, over and over again, you’d of course want to trade that strategy because it’s proven to
be a profitable trading strategy. Keep in mind, a screening and backtesting program isn’t a ‘box
of magic’, but it’s a great way to see what works and what doesn’t before you put your money
at risk!
How to Screen (Using the Research Wizard)
Notes

Step 1: Identify
How to Screen for Fundamental Trading Styles
In this lesson, we’ll learn about how to identify the kind of trader you are, or the kind of trader
you want to become. Then, we’ll show you how to build these screens using the Research
Wizard to help you find just the right stocks that meet your particular style type.
First, ask yourself what kind of an investor you are or want to become.
Then, check all that apply:
What kind of stocks do you want to be in?

__ High flyers and fast movers
__ Big earnings momentum or aggressive growth
__ Solid companies with dependable growth
__ Mature companies with income producing dividends
__ Deeply discounted or undervalued stocks
What kind of characteristics do you want your stocks to have?

__ Low P/E ratios and Price to Sales ratios
__ Great management as reflected by a strong ROE
__ Big earnings growth or earnings surprises
__ Companies with a Zacks Rank of 1 or 2
What do you want your stocks to do for you?

__ Make fast money by getting in and out quickly
__ Find long-term core holdings
__ Stocks that will generate income
__ Medium-term trading strategy to actively pick stocks and grow a portfolio
Notes
Fundamental Trading Styles
Fundamental Trading Styles
Let’s look at the four main trading styles. They are:
• Momentum
• Aggressive Growth
• Value
• Growth & Income
Momentum
Momentum traders look to take advantage of upward trends (or downward trends) in a
stock’s price or earnings. They believe that these stocks will continue to head in the
same direction because of the momentum that is already behind them.
Notes

In fact, there’s a lot of evidence to support the idea that stocks making new highs have
a tendency of making even higher highs.
Aggressive Growth
Aggressive Growth traders are primarily focused on stocks with aggressive earnings
growth or revenue growth (or at least the potential for aggressive growth). You’ll often
find smaller cap stocks in this category.
Value
Value investors and traders favor good stocks at great prices over great stocks at good
prices. This does not mean they have to be cheap stocks in price though. The key is the
belief that they’re undervalued. That they are trading under their true value or potential.
And the value investor hopes to get in before the market corrects the price, or in other
words, goes higher.
Value investors and traders look at valuations such as Price to Book ratios, P/E ratios,
etc. Additionally, they often have a longer time horizon because it may take a little longer
before the market takes notice of the stock and recognizes its true value.
Growth & Income
Growth & Income investors and traders are looking for good companies with solid
revenue that pay a good dividend.
Often these are more mature, large-cap companies that generate solid revenue and
then pass it along to shareholders in the form of a dividend. This kind of investor will
also have a longer time horizon, especially since they will want to hang onto their
stocks long enough to receive the dividends.
‘All-Style’ Style
You can also combine the best of some or all of the trading styles together into one
screen. In fact, this is a category that many people fall into. This combination style or
‘all-style’ style, is a style as well. And we will discuss this more, later on in this lesson.
Notes
Key Point–
No matter what style of trader you are, you’ll want to combine the ‘best’ of any
and all trading styles together into one screen.
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Exercise 3.1: Your Trading Style

What Kind of a Trader are You?
Identify your fundamental trading type based on the previous definitions and exercise. Then,
reflect on the holdings currently in your portfolio and determine if your trading style and
portfolio are consistent. Record your notes in the space provided.
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Exercise 3.2: Trading Strategies

Momentum Traders
Momentum Screen
Let’s take a closer look at a Momentum screen and how to build one in the Research Wizard.
Follow along with the corresponding lesson on your DVDs and then complete the exercises.
List some additional items you would use in a momentum style screen.
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Notes

Big Money—Price Momentum Screen
The concept of finding the top price performers over one period and then narrowing your search
to the top price performers over another period, is a concept that goes into one of our pre-built
Momentum strategies called Big Money. (This strategy is included with the program.)
In this screening strategy, after the other criteria are laid out, the program looks for the
following:
• Top 20 Price Performers over the last 24 weeks

• From those 20 stocks, it then finds the Top 10 Price Performers over the last 12 weeks
• And from those 10, it finally selects the Top 3 Price Performers over the last 4 weeks
Big Money
Price Momentum Screen
Notes
Whether you rebalance this strategy once a week, or every four weeks, this strategy has
produced some spectacular returns. However, the Big Money strategy (as well as other
momentum strategies—especially price momentum strategies) is not without volatility. Often, a
momentum strategy picks the high fliers. And sometimes when a high flier turns around, it can
be quick.
Key Point–
Just remember, this is part of the identification process. You’ll want to identify
what kinds of stocks you want to trade and what kind of trader you are or want
to become.
Momentum
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Notes

Exercise 3.3: Building the Screen

Momentum Traders
Refer to the Momentum Screen demo using the Research Wizard.
Assignment: Create a momentum screen.
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Aggressive Growth Screen
The Aggressive Growth Method put together in the DVD demo has a compounded annual
Growth Rate of over 25% a year, and it also comes loaded with the Research Wizard program.
Aggressive Growth
Notes

Aggressive Growth Traders
Refer to the Aggressive Growth Screen demo using the Research Wizard.
Assignment: To create, save and retrieve this screen, follow along with the procedure on your
DVDs while duplicating the steps illustrated by the instructor. Complete the procedure before
moving on in this workbook.
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Value Screen
As a value investor, traders often find themselves looking at different kinds of ratios to get a
gauge as to how the market perceives or values those companies. A value investor isn’t
looking for the biggest growth rates or the biggest EPS surprise, but rather, undervalued
companies that are being overlooked by the market.
The value investor must have a degree of patience, too. For example, if the company is being
overlooked by the market for some reason, it may not change overnight.
Therefore, while Momentum traders and Aggressive Growth traders can often be immediately
rewarded for finding hot companies, Value traders and investors can take solace in the fact that
‘cheap stocks’ (low valuation stocks) have historically performed better than growth stocks over
time.
Notes

Value

Value Traders
Refer to DVD Disc 3: Screening for Stocks and Creating Your Own Trading Strategies for
the Value Screen demo using the Research Wizard.
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Notes
Growth & Income Screen

A Growth & Income screen allows you to focus on the growth aspects of your stock picks while
also concentrating on the income potential many traders are looking for.
Growth & Income

Growth & Income Traders
the Growth & Income Screen demo using the Research Wizard.
Notes

‘All Style’ Style

As you study the various trading styles, don’t be concerned about ‘fitting’ exactly into one style
or another. Many traders easily fall into a category, but many others will identify with more than
one style, or even identify with components from all styles.
Combining the ‘best’ of different styles can also be a style unto itself. For example, Growth and
Value style traders want their companies to have good earnings growth, but they don’t want to
overpay for their investments. Everybody likes value, but many companies with low valuations
are low because they don’t have any real growth prospects worth consideration.
On the other hand, looking for companies with strong earnings and low valuations can give you
the best of two different styles all rolled up in one. For example, you can look at companies that
have both strong growth and great valuations.
There are a lot of companies that fit these criteria and in the Research Wizard we have a strat-
egy that does just that. It’s a screen called aptly enough,’ Growth and Value’.
Growth and Value
Notes
Growth and Value

In this screen we are looking for stocks that have growth rates greater than 80% of the stocks
in the Universe while simultaneously having P/E ratios lower than 80% of the companies in the
Universe. The screen breaks down the Universe into uniform groups of 1-99. Then, it screens
for the companies that are better than 80% of all the other groups.
Let’s take a look at the parameters that go into this screen.

Growth and Value Traders
Growth and Value
Notes

Ranking Parameters
• For the Growth Rate
– between 1-99, the higher numbers were assigned to the stocks with the better
Growth Rates
• For the P/E Ratio

– between 1-99, the higher numbers were assigned to the stocks with the lower
(i.e., better) P/E Ratios.
Let’s look at the following examples:
• Rush Enterprises has a growth rate greater than 83% percent of all the other companies
while also having a P/E ratio lower than 95% of all the other companies.
• Southern Peru Copper has a growth rate greater than 96% percent of all the other
companies and a P/E Ratio lower than 90% of all the other companies.
Rush Enterprises
Notes
Southern Peru Copper
The Ranking Methodology
The Ranking Methodology we were using is called a Uniform Rank. Other Ranking methods in
the program include Histogram Ranking and Ordinal Ranking. But one of the best and easiest
to use Ranking Methods in the Research Wizard is the color-coded Hot Maps feature.
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Notes

Hot Maps
After you run a screen or report, you can access the hot maps by going to graphics on your
menu bar.
Menu Bar > Graphics
Graphics > Hot Maps
Notes
Hot Maps Data
The Hot Maps allow you to graphically view the attractiveness of the companies within your
screen, report or ticker list based on the items within your report.
You can rank your stocks on a singular item or on multiple items in your report. Each item is
ranked based on their numerical values. The individual scores are then combined into a
composite rank. (The composite rank for the company is the equally weighted average of the
individual rank for each item.) The stocks are then color coded using varying shades of green
for most attractive and varying shades of red for least attractive. A neutral score is represented
by white. If there is no data for a company (i.e., N/A), it will be colored gray.
Using a composite indicator is a technique used by professional investors to rank stocks based
on more than one factor to determine the most attractive stocks.
Notes

How to Use Hot Maps
After you’ve identified your stocks, select the key ratios that you want to rank your stocks with
(such as: Earnings Estimate Revisions, EPS Growth, P/E ratios and etc.) and add them to your
report.
The Hot Maps ranks your stocks based on the items in your report. If you only want to rank
your stocks based on one factor or item, then only have that one item in your report. If you want
to rank your stocks on multiple items, then be sure to add those to your report. Hot Maps
enables you to rank your stocks using multiple items simultaneously.
If you’re running a screen, the screened items are automatically added to your report. If you do
not want to rank your stocks on some or all of the items used in your screen, then delete them
from your report and add only those items you want to your report. Then only your key ratios
will be ranked. The composite rank created by the Hot Maps equal weights each of the key
ratios. If you want to place more weight on one ratio, simply include that ratio twice in your
report. It will then be used twice (twice the weighting) in the creating of the composite rank.
Key Point–
The Hot Maps can be run only after displaying the results of a screen, ticker
list or report.
The Hot Maps can be organized by:
• Zacks Sector
• Zacks M (Medium) Industry
• Zacks X (Expanded) Industry
• Zacks Sector then by M Industry
• Zacks Sector then by X Industry
If you do not want to have your report organized, select None.
Key Point–
The Hot Maps feature lets you rank your stocks on a singular item or on
multiple items in your report.
Notes
Ranking Stocks using Hot Maps
Exercise 3.8: The Hot Maps Function
Assignment: To retrieve the Hot Maps function in the Research Wizard, follow along with the
procedure on your DVDs while duplicating the steps illustrated by your instructor. Complete the
procedure before moving on in this workbook.
Changes in the Zacks Rank

Let’s look at another powerful way to screen for stocks. This powerful screen looks for changes
in the Zacks Rank. We can do this from the Calculation Expression feature or from the main
page of the program.
Notes


Changes in the Zacks Rank
the Changes in the Zacks Rank demo using the Research Wizard.
Assignment: To run this screen, follow the procedure on your DVDs while duplicating the steps
illustrated by the instructor. Complete the procedure before moving on in this workbook.
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Step 2: Analyze
How to Backtest Using the Research Wizard
Now that you’ve created your own screens, it’s time to test them out. But first, be sure to
understand what ‘kind’ of screen it is you want.
Ask yourself…
• Am I screening to generate a watch-list of stocks to do additional research on?

• Or, am I trying to create a trading strategy?
If the latter, the number of stocks the screen generates is very important because if you’re
building a screen as a trading strategy, you need to make sure you can trade all of the stocks
it tells you to trade.
Notes
How to Backtest Using the Research Wizard
For example: If you have a strategy that makes a 100% return a year, but you have to buy 60
stocks every month, it doesn't make sense for you to try and trade it if you can only buy 10
stocks.
Why? Because the very moment you don’t buy all of those 60 stocks, is the very moment you’re
no longer trading that strategy. If on the other hand, you’re simply trying to generate a list of
stocks that have merit so you can do additional research, then the size of the list no longer
really matters that much.
These are important things to consider when creating and backtesting your screens and
trading strategies.
Backtesting Example Using the Best Buys Strategy

The first strategy we used in the DVDs to demonstrate how to run a backtest and how to
interpret the report was the Best Buys Strategy.
Notes

But please review any of the strategies we’ve covered so far (and even those we haven’t). Just
remember that the key to being successful with any kind of trading strategy is to make sure the
strategy agrees with your style and risk tolerance.
You should look at the win ratio, the number of stocks held in your portfolio at any one time, the
amount of trading or turnover there is and the maximum drawdown and more. Also, if you’re
creating your own strategies, it’s critical to test them over both up and down markets, to know
how your strategy acts in both bullish and bearish periods.
Few traders ruin their account when the market’s going straight up. It’s when the market goes
down that people get into real trouble. Unfortunately, even bad trading decisions can get
rewarded in bull markets. But there’s no mercy for bad decision makers in bear markets.
So test your strategies if you’re going to be building them on your own. Or use only proven,
profitable trading strategies, like the ones presented here so far.
If You’re Not Backtesting, You’re Just Guessing
Notes

Best Buys Strategy
Refer to DVD Disc 4: Backtesting Your Strategies for Success for the Best Buys Strategy
and the other strategies demonstrated in the DVDs.
Assignment: To backtest this screen in the Research Wizard, follow along with the procedure
on your DVDs while duplicating the steps illustrated by the instructor. Complete the procedure
before moving on in this workbook.
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Step 3: Manage
How to Trade the Strategies
As we have previously discussed, implementing these trading strategies is very easy. After
‘identifying’ what kind of trader you are and what kind of strategies you want to trade, then all
you have to decide on is how often you want to trade.
But whether you’ve decided you want to trade every one week, two weeks, four weeks, or even
a couple times a year, the process is the same and very quick.
At the beginning of each period (whether it be weekly, monthly or quarterly), you will run your
screen for Monday morning and see what stocks come through.
Just a note... What is meant by ‘for Monday morning’ is to run your screen on either Saturday
evening, or anytime on Sunday or Monday morning.
Notes

The Trading Strategy Process

When trading your first period, purchase all of the stocks that come through your screen in an
equal dollar weighted manner, meaning you’ll be putting the same amount of money into each
stock. This is important because you never know which one could be a big winner or which one
for some reason may not do so good.
If you’re putting an equal amount of money into each one of them, you’ll be in all of them. But
if you decide to load up on one or pass on another, you’re increasing your risk and moreover,
you’re no longer trading the strategy. So buy all of the stocks that come through in an equal
dollar weighted manner.
And remember, you’ll hold onto those stocks for the duration of your holding period -- one week,
four weeks, 12 weeks, etc. At the end of that holding period is the beginning of the new period
and the screen is run again.
Notes
You’ll keep the stocks that remain qualified (the ones that came through again), sell the stocks
that no longer qualify (whether it be at a profit or a loss) and you’ll buy any new stock(s) that
newly qualify.
Determining the Holding Periods
Many of these strategies were created to be rebalanced every four weeks while others are bet-
ter suited for longer hold times like the Dividend Paying strategies or even the Value oriented
strategies.
As we have demonstrated in some of the previous screens, performance can be enhanced

when rebalanced weekly or even every two weeks. But some don’t want to trade that often.
While it will only take you approximately 10 minutes to rebalance your portfolio (whether it is
once a week or once a month or once a quarter), if you don’t want to trade that often, then don’t.
This is all a part of ‘Identifying’ the kind of trader you are or the kind of a trader you want to be.
Notes

That includes the kinds of stocks you want to get into and how often you want to trade. One of
the key points to trading success is being able to just do it. But if it’s hard or time consuming,
you’ll find yourself not doing it. And even the best trading strategy, if you don’t use it, won’t make
you any money.
So, set yourself up in a winning situation. Trade a strategy you like. If you don’t like stocks mak-
ing new 52-week highs, even though it’s a great strategy, don’t trade it. If you prefer to trade
once a month or even once every three months, do so.
Don’t try to make a weekly strategy work for you if you simply don’t want to trade every week.
Also, don’t try to fit yourself into longer term rebalancing period, if you want to be a more active
trader.
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Other Rebalancing Methods
Another way to trade these strategies is by using a combination of both the 4-week and 1-week
holding periods. This can also be very effective. This is done by running the screen on a weekly
basis, but holding those stocks for a 4-week period.
For example:
1. Run the screen at the beginning of the week.
2. Buy all of the stocks that come through the screen.
3. Hang on to the stocks for the next four weeks.
Then:
4. Next week, run the screen again.
5. Buy any new stocks that made it through the screen, being sure to hang on to those stocks
for the next four weeks.
Notes
Do this week after week. Each week a stock comes through the screen, a new four-week hold
count begins. If a stock never comes through again, sell the stock in four weeks. So, even
though a four-week holding period is being used, the screen is being run weekly and only a
portion of the portfolio is being rebalanced each week.
One of the benefits to this strategy is if you’re running a great screen, you are participating in
every start date, meaning you’ll have the opportunity to pick up any and every new stock that
comes through at the beginning of each period.
Key Point–
This strategy can help you increase your returns and smooth out your
performance. Even though running your screen each week is an active
approach, you are also incorporating a longer hold-time for stocks coming
through the screen.
It’s also a good strategy if you have a larger portfolio and want to include more stocks to hold
at any one time.
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Stop Loss Orders

The great performances you’ve seen so far in the DVDs and from all of these different strate-
gies, were all done without the use of stop-losses or any other type of money management
rules. Some view this as a testament to how solid the strategies are.
If a proven, profitable strategy that has been backtested through and through has a stock doing
poorly, it’s likely it’s going to be kicked out of your screen at the next rebalancing period. So in
a way, it acts like a built-in protection for your portfolio. And these risk-to-reward metrics can be
viewed in the backtest report.
But some still like using stop-loss orders. It’s something you might want to consider for yourself.
Notes

Stop Loss Orders
A popular place for a stop-loss is 10% from your purchase price. If you have a 10% loss on a
trade, you only need to make a little bit more than 10% on your next trade (or trades) to get
it back. And if you’re running an excellent strategy with a big win ratio, your probability of
gaining that back should be very good.
However, if you get hit for a 30% loss, you would now need to make nearly 43% back on your
next trade or trades to get back to where you were. And if you get hit for a 50% loss, then you
would need a 100% winner to get that money back. So trying to keep your losses small and
reasonable makes sense.
Additionally, if you know you would sell a stock that falls 15% or 20% or more, why not just
utilize a stop-loss at the relatively painless area of 10% without doing any real damage and give
yourself permission to get back in if there’s reason enough to do so.
Another benefit for some in cutting losses at a planned percentage is that it helps them stay
focused by not getting down on themselves or getting gun-shy on their next trade.
Notes
The decision is yours whether you decide to use stops or not. But we thought we’d share with
you how some people use stop-loss rules in their own trading.
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Exercise 3.11: Stop Loss Orders
Read the following scenario and answer the questions below.
Scenario: You are considering setting a10% stop loss on the stocks you are trading. One of the
stocks, XYZ Corp, came through your screen yet it tends to be volatile. But you have also seen
some good profits in the past. Therefore, you don’t really want to sell the stock if drops down
below the 10% because it might swing back up and make a larger profit.
1. What are your options for trading this stock?

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2. Will you set the stop-loss? Why or why not?

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3. If you set a stop loss and were stopped out, and the stock started back up, what should you
consider before buying the stock again?
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Notes

4. What else could you do to remove the emotion from your trading?
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Exercise 3.12: I AM Review
In your own words, briefly explain how each of the following can make you a better
investor/trader:
Identify …
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Analyze …
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Manage …
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Notes

Lesson Snapshot
Your investments are probably the largest, most important chunk of money you’ll ever be
responsible for in your entire life. And if it isn’t now, it probably will be one day.
You now have the method—the Zacks Method—to better take care of your investments. Today’s
decisions will determine your financial resources tomorrow.
After watching the DVDs and participating in the exercises and assignments in this Home Study
Course, you should be able to say ...
I AM … a more informed trader.

I AM … a more confident trader.
I AM … a better and more profitable trader!
In the Home Study Course, we categorize many of our top trading strategies—the ones covered
here (and many that were not)—complete with performance charts and graphs and the
reasons behind them.
Final Review
Pick and choose from the proven, profitable trading strategies that Zacks has already created
and that come loaded with the Research Wizard. Or use the program to create your own screens
and trading strategies.
Then backtest them to know if they work. Backtesting gives you the opportunity to test new
trading techniques and ideas and discover how successful they are before you put your money
at risk.
You now have the tools and the knowledge to backtest to see if something new to you works
better than what you’re doing now. That includes new screens and trading strategies and maybe
even how often you trade. You might realize that trading a little more often can make all the
difference in your final results. You may also realize that you’re overtrading and by rebalancing
your portfolio less often, your bottom line will improve.
Notes
Let’s also review again ‘how’ to trade these strategies and the different ways you can implement
them.
Remember these important points in the process:

• Determine the strategy and the rebalancing period that’s right for you, then run your screen
at the beginning of each period. (Once a week, every two weeks, every four weeks,
every 12 weeks, etc.).
On your first week (Monday morning), buy all the stocks that make it through your screen.
• Each stock should be purchased in equal dollar amounts. (An equal amount of money is
put into each stock.)
• Hang on to those stocks for the duration of the holding period.
• At the end of the holding period (which is the beginning of the new period), run the screen
again and see what stocks come through.
• Keep the stocks that still qualify.
• Sell the stocks that no longer qualify (whether you take a profit or a loss – sell those that no
longer qualify).
• Buy any new stock(s) that newly come through the screen.
That’s it. It’s that easy.
You can do it. And Zacks and the Research Wizard will be with you and coaching you every step
of the way.
Congratulations! And Good Trading.
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Notes

Notes:
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Notes

Lesson Four—
Advanced Backtesting and Screening
Objectives
• Introduction to Advanced Backtesting
• The Advanced Backtesting and Screening Add-On
Main Features
– Automated Robustness Analysis
Z
– Combo Strategy Backtesting and Screening
– Testing for Optimum Valuations
– An Expanded Backtesting Database
A
• Automated Robustness Analysis Checker
• Introduction to the Combo Backtesting Feature
• Testing for Optimal Valuations with the Combo Backtester
C
K
Assignments and Exercises
The following assignments will help you in understanding the
S
• Watch DVD Disc 5: Bonus – Advanced Backtesting
87
Introduction to Advanced Backtesting
Introduction to Advanced Backtesting
In this lesson, we will discuss some of the advanced backtesting and screening features that
come with the Advanced Backtesting and Screening Add-on for the Research Wizard. As you
know from the previous lessons and from watching the DVDs, the Research Wizard is a very
powerful tool. And the Research Wizard is so easy to use, it’s ideal for all levels of traders and
investors.
The Advanced Backtesting and Screening Add-On

Main Features
Notes

Lesson Four—Advanced Backtesting and Screening
The Main Features
The main features of the Advanced Backtesting and Screening Add-on are:
• Automated Robustness Analysis Checker

(Best Case / Worst Case Analysis)
• Combo Strategy Backtesting and Screening
(multi-strategy testing)
• Optimum Valuation Finder
(an easier way of testing for Optimum Valuations)
• An Expanded Backtesting Database
(goes back to the year 2000)
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Robust Analysis
Best Case / Worst Case Scenario
Notes
Automated Robustness Analysis

(Best Case / Worst Case Analysis)
Backtesting is one of the only ways to see how successful your trading strategies are before you
place a trade. And testing your strategies over many different time periods is critical to making
sure your strategies are robust enough to make money in all market conditions no matter when
you start using it.
For example, if your strategy is to buy stocks at the beginning of each month and hang onto
them for the remainder of the month, it would also be a good idea to see what would happen if
you picked stocks in the second week, the third week or the fourth week of the month and held
onto those picks for a different set of four-week periods.
In other words, how does your strategy do if you buy your stocks at the beginning of the month
and hold onto them until the end of the month? But then what would happen if you bought your
stocks on the second week of the month and held onto them until the second week of the next
month?
Or, what if you bought them on the third week of the month and held onto those until the third
week of the next month, etc. This is good to know, because depending on when you run your
screen, your strategy could pick a different list of stocks. This list might be slightly different—
or meaningfully different—each week you run your screen.
In addition, these lists will then be held over different sets of four-week periods. Therefore, if your
strategies can do well no matter what and when, you will know that you’ve got something
special—a proven, profitable and repeatable way to pick winning stocks.
You haven’t merely stumbled over some coincidental performance result, but instead, you have
identified a truly robust trading strategy. While much of this can be done individually in the
standard backtester in the Research Wizard, the Advanced Backtester lets you test your
strategy over multiple start dates with only one click of the mouse instead of setting up
separate tests for each new start date you want to test it over.
This is great for the casual backtester who simply wants to see how something has done over
time as quickly and easily as possible. It’s also perfect for the advanced strategy builder who
Notes

needs answers fast, as different screens and ideas are constantly being tested and re-tested
to find advantages over the market.
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Exercise 4.1: Robustness Analysis Checker
Refer to the Bonus DVD, Disc 5: Advanced Backtesting. Follow along with the Automated
Robustness Analysis Checker demo using the Research Wizard.
Assignment: To backtest this strategy on your own in the Research Wizard, follow along with
the procedure on your DVDs while duplicating the steps illustrated by the instructor. Complete
the procedure before moving on in this workbook.
Robustness Analysis
Notes
A Tool of Convenience
The Robustness Analysis checker is a great convenience tool and displays all of your strategy’s
different start dates in one report for quick and easy analysis. In the example just completed,
the instructor used a two-week holding period so there were only two possible start dates.
If you used a four-week rebalancing period, there would be four start dates plotted on your
chart.
Robustness Analysis
In this chart you can see how all four start dates performed based on the week of the month
where they were started. Clearly, the turquoise colored start date was the most optimum start
date. The start date in blue was the least optimum start date. The other start dates are in green
and orange and they both performed in the same range, with each one showing a return in
excess of 1,300%.
Notes

Even the ‘worst’ start date (the one in blue) increased by over 1,300%, too. The line in black is
showing the average return of all four possible starting dates. The information that can be
gathered from this report is clear. As you can see, it’s a great strategy. No matter when you
start it, the returns are excellent. Even the ‘worst’ start date shows a total return of 1,322%, with
a compounded annual growth rate of 45.5% a year.
And the maximum drawdown is very reasonable as well – with even the worst maximum
drawdown being very reasonable.
~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~
Interpreting the Results
Notes
Exercise 4.2: Robustness Analysis

Interpreting the Results
Follow along with your instructor on the DVD. Record the results of the previous backtest in the
space provided.
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Then, complete the following sentences:
1. I can start trading it without worry because ...

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2. I can pinpoint the best start date by ...

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3. I can go back and see how consistent the ‘best start date’ was in each year by ...
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Notes

4. I could participate in each start date in an effort to achieve the average return of all the start
dates by ...
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Simply by knowing that even the worst possible start date in this scenario would have produced
great results, is knowledge alone that can give you the confidence to start trading the strategy.
~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~
Introduction to Combo Backtesting
Notes
Introduction to the Combo Backtesting Feature
One of the most exciting features of the Advanced Backtester is being able to backtest Combo
Strategies.
Now you can backtest multiple strategies together!
You can see:

• how the strategies perform together as a portfolio
• if one complements the other(s)
• if the returns are even higher
• if the returns are smoother with less risk
Key Point–
One of the most exciting features of the Advanced Backtester is being able to
backtest Combo Strategies.
~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~
Exercise 4.3: Combo Backtesting
Assignment: To learn how to use the Combo Backtester in the Research Wizard, follow along
with the procedure on your DVDs while duplicating the steps illustrated by the instructor. Com-
plete the procedure before moving on in this workbook.
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Notes

What is Combo Backtesting?
As you can see by the DVD presentation, Combo Backtesting opens up an entire new way of
trading.
In addition, you may recall from the previous lessons that we discussed the different styles of
trading: Momentum, Value, Aggressive Growth and Growth & Income. We also talked about
the ‘All Style’ style of trading, which includes strategies from some of the styles or all of the
styles—all rolled into one.
And that’s probably where most people are most comfortable in their trading. Now it’s even
easier to combine multiple styles, and in reality, doing so might be even better. For example,
let’s say you created a straight up price momentum screen, but you didn’t want to trade all of
your money in those high fliers. Let’s also say you wanted some classic undervalued stocks too
and maybe some solid dividend paying stocks as well.
To create a screen to backtest a strategy that meets all these criteria would be very difficult
without watering down some of the other important components. For instance, an Aggressive
Growth stock will probably never show up on a dividend paying Growth and Income screen.
They’re just totally different styles that in general, won’t overlap.
But if you could create classic screens for each style by concentrating on each one’s unique
characteristics and then combine these individual screens into a Combo Strategy, now you’ve
got it all.
And since different styles or market caps may perform better or worse at different times,
combining the strategies together into a Combo strategy can show you if there’s any excess
return to made and if you’ve been able to successfully lower your risk and volatility while doing
so.
And the only thing better than a larger return is a smoother ride in getting there.
Notes
Testing for Optimal Valuations with the Combo

Backtester
Testing and building strategies can be fun—especially if you have the right tools.
Just remember that when you’re testing and building strategies, there can also be a lot of trial
and error, too. And that can be time consuming. But what if you could test different items to
determine their optimum valuation ranges? Then you could plug in the values that you know
work the best.
With the Combo feature of the Advanced Backtester, you can do just that!
For instance, let's say you wanted to know what the most profitable P/E ratio is:
– is it less than 20
– between 20 and 40
– or 40 and 60
– or 60 and higher
You can run a test and it'll show you how each set of valuations has performed. No guessing.
No wondering. Just hard core statistics.
And it's all graphically displayed for quick and easy analysis. You could save a lot of time and
be more accurate – which means you could build a better strategy faster, helping you make
more money.
Exercise 4.4: Optimum Valuations
Assignment: To backtest for Optimum Valuations in the Research Wizard, follow along with the
procedure on your DVDs while duplicating the steps illustrated by the instructor. Complete the
procedure before moving on in this workbook.
Notes

Testing for Optimal Valuations
The Power and Convenience of the Research Wizard
With the ability to search for optimum valuations, this adds an entire new dimension to your
screening and strategy building. You can research other valuable components such as seeing
how important an item is to a screen, chart the different market caps, or even see how the
different sectors and industries are performing.
The Research Wizard’s Advanced Backtester has all of the power and convenience for any
serious trader. And this power and convenience also makes it ideal for the less experienced
trader or the person who just doesn’t have a lot of time. What these different types or traders
and investors all have in common is the desire to get the right information, fast and easy as
possible.
And through the Research Wizard you can do all of these things—and more!
Notes
You can see the Best Case and Worst Case scenarios of your strategies with the Automated
Robustness Analysis Checker. You can also combine multiple screens together and test entire
portfolios with a click of a button with the Combo Backtester.
The Advanced Backtesting and Screening Add-On
Additionally, you have the capability of testing for Optimum Valuations so you can quickly and
easily see the most successful way to build your strategies.
So congratulations again. Your decision to take control of your investments and to become a
better trader is what Zacks is all about. We hope you’ve enjoyed this Home Study Course and
we hope that the Zacks Method for Trading and our tools like the Research Wizard can help you
achieve all of your trading goals.
Thanks again and good trading.
Notes

Notes:
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Notes
© 2010 Zacks Investment Research All Rights Reserved.

Appendix—The Zacks Rank Guide
APPENDIX
The Zacks Rank Guide

Zacks and the Zacks Rank..................................................A2
Who Are Institutional Investors?.......................................A3
Z
Where Do Earnings Estimates Come From?........................A4
Consensus Estimates.........................................................A5
A
The Zacks Rank.................................................................A6
The Four Factors behind the Zacks Rank............................A7
C
Zacks Rank Performance ..................................................A7
How the Zacks Rank Predicts Price Movement ...................A9
K
Price Spikes and the Zacks Rank .....................................A11
Why a Stock May Lose Its #1 Rank ...............................A12
S
Integrating the Zacks Rank into Investment Strategies ....A13
The Difference Between ABR and The Zacks Rank............A14
Limitations of the Zacks Rank......................................A15
A1
Zacks and the Zacks Rank

Zacks Investment Research was formed in 1978 to compile and analyze brokerage research
for both institutional and individual investors. The guiding principle behind our work is the
belief that there must be a good reason for the brokerage firms to spend over a billion dollars
a year to research stocks to recommend to their clients. Obviously, these investment experts
know something special that may be indicative of the future direction of stock prices. We were
determined to unlock that secret knowledge and make it available to our clients to help them
improve their investment results.
This massive undertaking requires us to continually process reports issued by approximately

3,000 analysts from 150 brokerage firms. At any given point in time, we are monitoring well over
200,000 earnings estimates and brokerage recommendation data points, looking for any
change – whether it be a an upgrade from a “hold” to a “buy” or a revision in an analyst’s
forecast for a specific quarter or fiscal year. We constantly compile and update this informa-
tion, distributing it to institutional investors and individual investors. Our ability to gather,
analyze and distribute information on a timely basis makes Zacks’ research amongst the most
widely used investment research.
Creation of the Zacks Rank

In the 1970s, Len Zacks worked as the head of quantitative research for a major
brokerage firm. Holding a PhD in mathematics from MIT, Len created models designed to help
investors beat the market.
After extensive research and testing, Len discovered that:
Earnings estimate revisions are the most powerful force impacting stock prices.
This led to a groundbreaking article, published in the Financial Analysts Journal in 1979 and
entitled “EPS Forecasts - Accuracy Is Not Enough.” From this seminal work was born Zacks
Investment research and the Zacks Rank.
The Zacks Rank is a quantitative model that uses four factors related to earnings estimates to
classify stocks into five groups, ranging from “Strong Buy” to “Strong Sell”. More importantly,
it allows individual investors to take advantage of trends in Earnings Estimate Revisions and
benefit from the power of institutional investors.
“I have bought many stocks over the past three years based on
Zacks Rank and made money. Too many to mention names.”
Lowell Womack
Birmingham, AL
A2 © 2010 Zacks Investment Research All Rights Reserved.

Who Are Institutional Investors?

People who trade stocks are broadly defined into one of two groups: institutional investors and
individual investors. Institutional investors are the professionals who manage the trillions of
dollars invested in mutual funds, pension plans, hedge funds, etc. Individual investors, also
referred to as “retail investors,” are people who independently invest for their own private
accounts.
Institutional investors have a considerably greater ability to influence prices than individual
investors. The reason is that institutional investors come to the market with millions of dollars
to trade and often buy and sell tens of thousands of shares of a single stock over the course
of a trading day. This financial muscle has a material impact on the movement and direction
of stock prices.
As an individual investor, you can benefit from the power of institutional investors to increase
your investment returns. In order to do this, it is important to understand what motivates
institutional investors’ buy/sell decisions.
Stock Valuation Models

Most institutional investors attended prestigious business schools where they were taught a
number of financial models. Many of these models are used to calculate the fair value of a
company and of its shares. Almost without exception, these valuation models focus on
earnings generated by these companies historically and into the future. The only way to run
these models based upon future earnings is through the use of earnings estimates. On the
simplest level, it can be understood that if you raise the earnings estimates used in the model
(input), then it will create a higher fair value for the company and its stock (output).
For example, an analyst could determine that a stock is worth a multiple of 20 times next year’s
earnings (a P/E of 20). If his current estimate calls for earnings of $1 per share, he would
recommend buying the stock for any price below $20 (20 x $1 = $20). If the analyst changes
his forecast and believes the company will instead earn $1.10 per share, he would then
recommend buying the stock for any price below $22 ($20 x $1.10 = $22). As you can see, an
increase in the earnings estimates can translate into a higher price for the stock.
Thus, it is imperative to learn more about earnings estimates.
performance for the Zacks Rank Portfolios and the backtested strategies can be found on A3
Where Do Earnings Estimates Come From?

The most widely used source of earnings estimates comes from brokerage or “sell-side”
analysts. The term “sell-side” refers to the fact that these analysts’ employers — brokerage
firms, are in the business of trying to get investors to trade stocks. When a broker calls a client,
he is trying to use the research produced by his firm’s analysts to “sell” the client on trading a
stock, thereby generating a commission.
Brokerage analysts typically specialize in a sector or industry, such as software. They are
expected to be objective experts for the industries that they cover. However, their earnings
forecasts tend to err in being overly conservative because of the influence of corporate
executives and pressure from brokerage firm clients, as is explained below.
Company Management:
Public companies create financial projections of their future earnings to properly plan for and
manage operations. Corporate executives also use these projections to provide a basis to
explain to brokerage analysts how they anticipate their company performing in the future. From
there, the analysts will layer in some of their own assumptions in order to create an
independent earnings estimate (more on brokerage analysts below).
It is not in the best interest of corporate executives to share the most optimistic projections
with brokerage analysts, however. A large percentage of executive compensation comes from
company stock and stock option plans. Executives realize that if their company reports
earnings that are below analysts’ forecasts, almost without exception, the stock price will
tumble. This in turn costs them money. Therefore, it is more advantageous for executives to
provide brokerage analysts with conservative earnings estimates.
Brokerage Analysts:
The job of a brokerage analyst is to issue buy, sell and hold stock recommendations on behalf
of their employer. Brokerage firms, in turn, use this research to get clients to buy and sell
stocks. To justify their recommendations, analysts usually forecast what companies are
expected to earn in the future.
Clients will only act on a brokerage analyst’s recommendation if they think the recommenda-
tion will help them make money. The more money a firm’s clients make from a particular
analyst’s recommendations, the more valuable the analyst is to the firm. Since analysts issue
far more “buy” recommendations than “sell” recommendations, they want to avoid making
earnings forecasts that are overly optimistic. The incentive for issuing conservative earnings
estimates is that the company has a better chance of reporting earnings that exceed forecasts.
In turn, clients will be happy to see the stock’s price rise. Conversely, there is no incentive to
issue an earnings forecast that is overly optimistic.

Consensus Estimates
For any given stock there may be from 1 to 40 brokerage analysts following the company and
making EPS estimates. For more than 25 years, Zacks has been tracking these individual
sell-side analyst estimates and creating consensus EPS estimates. The consensus estimate
is the average of all the current estimates made available by brokerage analysts. Consensus
estimates are more advantageous because they reduce the risk of any single analyst making
an incorrect forecast.
Zacks Consensus Estimate = the average of all current EPS estimates
Zacks calculates a consensus estimate for the current quarter, the next quarter, the current
fiscal year, the next fiscal year and as a long-term growth rate. These consensus estimates are
the benchmark by which the company will be judged by the investment community. A
company can:
• Meet — report the same earnings as forecast

• Beat — report better earnings than forecast
• Miss — report worse earnings than forecast
Missing a forecast is the most dreaded outcome, since it suggests that a company is not
performing as well as investors thought. A stock’s price will often tumble in response to an
earnings miss.
Estimate Revisions
Although the consensus estimate provides a useful measure by which to gauge a
company’s performance, changes to earnings estimates may provide even greater value to
investors. Leonard Zacks’ 1979 study proved that the stocks most likely to outperform are the
ones whose earnings estimates are being raised. Similarly, the stocks most likely to
underperform are the ones whose earnings estimates are being lowered.
Individual and institutional investors can (and do) use Zacks Investment Research to find this
important information. Every day, Zacks receives research reports from approximately 150
brokerage firms, with many of these firms providing data on a daily or intraday basis. The
earnings data and stock recommendations are promptly entered into our database.
The Zacks Rank

Given the sheer number of Earnings Estimate Revisions made on daily basis, it can be very
difficult to determine which stocks to buy and which ones to avoid. The Zacks Rank solves
this problem by helping investors harness the power of earnings estimate revisions to invest
more successfully.
The Zacks Rank is a proprietary quantitative model that uses trends in earnings estimate
revisions and EPS surprises to classify stocks into five groups:
#1 = Strong Buy
#2 = Buy
#3 = Hold
#4 = Sell
#5 = Strong Sell
At all times, the Zacks Rank is proportionately applied to the approximate 4,400 stocks for
which sell-side analyst estimates are available. In other words, regardless of how strong the
economy is, only the very top 5% of stocks receive the coveted designation of Zacks #1 Rank.
More importantly, at all times, approximately the same number of stocks are assigned a Zacks
#5 Rank as are assigned a Zacks #1 Rank.
This equality between “Strong Buy” and “Strong Sell” recommendations makes the Zacks Rank
a much more reliable indicator than brokerage recommendations. Brokerage recommenda-
tions are biased towards buy ratings, with many sell-side analysts reluctant to issue a “sell”
recommendation.
The majority of stocks are assigned Zacks Rank #3, meaning their trend in Earnings Estimate
Revisions is inline with the overall market.
“I don’t buy a stock unless Zacks says it’s a Strong Buy.”
Tim Mally
Madison, WI

The Four Factors behind the Zacks Rank

The Zacks Rank is calculated from four primary inputs: Agreement, Magnitude, Upside and
Surprise.
Agreement
The extent to which all brokerage analysts are revising their EPS estimates in the same
direction. The more analysts that are revising estimates upward, the higher the Zacks Rank.
Magnitude
The size of recent changes in the consensus estimate for the current fiscal year and the next
fiscal year. For example, an earnings estimate revision that causes the consensus estimate to
increase by 6% is a more powerful signal than an earnings estimate revision that causes a 2%
rise in the consensus estimate.
Upside
The difference between the most accurate estimate and the consensus estimate.
Surprise
When the earnings reported in a company’s quarterly or annual report are above or below
analysts’ earnings estimates. A company that reports a positive surprise for the most recent
quarter is more likely to have a positive earnings surprise in the next quarter as well (and visa
versa). The Zacks Rank calculations factor in the last quarter’s EPS surprise.
Every night we recalculate these four factors for the universe of stocks covered by the
brokerage analyst community (approximately 4,400 stocks). The four measures are combined
into a composite score, which is then used to assign a Zacks Rank.
“The Zacks #1 Rank leads me to stronger stocks.”
Clarence Feinour
Reading, PA
Zacks Rank Performance

Following the Zacks Rank has proved to be very profitable. Since 1988, a portfolio constructed
of Zacks #1 Rank stocks has generated an average annual return of 32%. Comparatively, the
S&P 500 has only returned 12% over the same period.
Zacks Rank - Annual Returns
*2007 results are for the period of Jan 1 - Jun 30, 2007

How the Zacks Rank Predicts Price Movement

The Zacks Ranks does not influence price movement, it simply alerts investors to changes in
expectations that may result in price movement. To better understand how the Zacks Rank
can identify stocks likely to experience price movements in the next 1-3 months, consider the
imaginary company XYZ Corporation.
Step 1: Brokerage Analysts Upwardly Revise Earnings Estimates
Analysts sense positive momentum in XYZ’s business. Perhaps the analysts saw bullish trends
in the latest earnings report or perhaps the company’s management was unusually upbeat in
a recent meeting. Regardless of the reason, the analysts are convinced that earnings in future
quarters are going to be higher than they previously anticipated. As a result, the analysts issue
new reports with upwardly revised profit expectations. This new information is sent to
institutional investors, individual brokerage clients and to Zacks.
Step 2: Daily Updating of the Zacks Rank - Your Personal Signal
Every night, the Zacks Rank is recalculated for the entire universe of stocks covered by
analysts. A value is assigned to every stock based on the scores of the four factors described
above and a new rank is assigned. This process takes into account the upward revision in
XYZ’s earnings expectations and, as a result, XYZ is assigned a #1 Rank.
Step 3: Institutional Money Starts Flowing into the Stock
Institutional investors (mutual funds, pension plans, money managers, etc.) have the greatest
buying power to influence a stock’s price. Most of these institutional investors employ
valuation models that use earnings estimates as a prime component. Thus, when they receive
new research from the sell-side brokerage analysts stating that EPS estimates are going up
for XYZ, their opinion of XYZ improves. (The higher earnings estimate makes the stock appear
to be more of a bargain). As result, institutional investors want to purchase more shares of
XYZ for their portfolios. However, since they have so much money to spend and do not want
to run up the price on themselves, they end up accumulating shares over the coming weeks
and months. This can give the individual investor time to sneak in ahead of the institutions to
reap the rewards of the rising share price.
Step 4: Momentum & Technical Analysis Investors Buy
There is a vast legion of investors who employ charting and quantitative models that look for
trends like a rising share price and a corresponding increase in daily trading activity to spot
winning stocks. In general, they believe that a stock on the rise will continue its ascent over the
short-term. Therefore, given the impetus in the stock price and volume from the institutional
investors in Step 3, these momentum and technical analysis investors may jump on board
XYZ for a short-term profit and drive the price even further.
Step 5: Earnings Surprise
Nothing catapults a stock faster than a strong earnings surprise and the Zacks #1 Rank helps
to identify those stocks that are most likely to issue a positive earnings surprise. The reason
is that two of the four factors used in the Zacks Rank look for stocks with the strongest
potential to post a positive earnings surprise (Upside and Surprise). In the case of XYZ, a very
bullish earnings report could send the stock’s price even higher.
Step 6: Rinse and Repeat
If indeed XYZ Corporation posted an upside earnings surprise and gave solid guidance for the
future, then it is very likely that this positive cycle will start all over again at Step 1. This
“earnings momentum” effect is how the short-term benefits of the Zacks Rank begins to carry
over into a major benefit for long-term investors.
“Most of the stocks I bought as ones or twos I’m still holding.”
Jerome ‘Skip’ Garrison

Cadiz, KY
Negative Earnings Revisions

If earnings estimates are declining, a six step process resulting in potential downward price
movement occurs:
1. An analyst senses negative business momentum and lowers his estimates.
2. A Zacks Rank of #4 or #5 is assigned, alerting investors, such as yourself, that

earnings estimates are declining.
3. Institutional investors enter in the new information into their valuation models and
view the stock as being less attractive. As a result, they sell their shares.
4. Active traders, who rely on technical analysis, notice the weakness in the price and
sell the stock short.
5. The company issues a disappointing earnings report, causing even more investors
to sell the stock.
6. If the company provides more bearish information, analysts lower their forecasts,
restarting the process again.

Price Spikes and the Zacks Rank

Quite often stocks are designated Zacks #1 Rank after a run up in price. Although, price
changes are not calculated as part of the Zacks Rank, events that typically cause a rise in
share price also spur increases to the Zacks Rank.
When positive earnings news is released for a company, whether it be a bullish earnings
report or a favorable news announcement, a stock can immediately jump in price. Depending
on how quickly brokerage analysts revise their estimates, the Zacks Rank may not improve
until a day or more after the news was released. This may make it seem that the Zacks Rank
is a lagging indicator. Yet even with this slight time delay, we have proven since the inception
of the Zacks Rank that these stocks continue to outperform the market over the next 1-3
months.
Here’s why.
If a company announces a strong earnings outlook, then speculative investors often quickly
react by bidding up the stock price. At the same time, analysts speak with the company’s
executives and revise their earnings estimates based on the new information. It may take the
analysts up to a week to release their new estimates. Since the Zacks Rank is based on
analysts’ estimates, the Zacks Rank does not change until the new estimates are released by
the analysts and added to Zacks’ database.
Institutional investors receive the new brokerage reports at the same time as Zacks and
factor the revised earnings estimates data into their valuation models. Based on the new data,
these large investors perceive the stock as being undervalued relative to its revised growth
prospects and decide to buy more shares. However, since institutional investors have so much
money to spend, they gradually purchase the stock over a period of several weeks and months.
(This is often described as “Accumulation”).
Traders who rely on technical analysis (charting) notice the upward price movement and
increase in volume for the stock caused by strong demand among institutional investors. These
traders spot the trend and begin buying shares in hopes of generating short-term profits.
Our research and the +32% average annual return generated by Zacks #1 Rank stocks (many
of which were upgraded to #1 Rank after the initial spike in price) shows that positive earnings
revisions are often more than just one-time events. Rather, a company that reports a positive
earnings surprise and experiences positive Earnings Estimate Revisions is likely to continue
to do so in the future. And since the Earnings Estimate Revisions are the most powerful force
impacting stock prices, the stock has a good chance of appreciating even more in the future.
Why a Stock May Lose Its #1 Rank

The Zacks Rank is a timeliness indicator that is assigned in constant proportions across the
coverage universe. Only 5% of stocks can have a Zacks #1 Rank Strong Buy rating at any
given time. Furthermore, the Zacks Rank is calculated on a daily basis, to ensure the most
current information is evaluated. This combination of exclusivity and constant updates means
that a stock can lose its #1 Rank.
Most investors understand why negative estimate revisions will lower the Zacks Rank of a
stock. However, it is not so obvious why a company with positive estimate revisions may lose
its #1 ranking. The key to understanding this concept is to realize that the Zacks Rank is a
relative indicator. A stock’s rank is determined by how it compares to all other stocks in the
Zacks Rank universe. This comparison is based on both the size and timing of Earnings
Estimate Revisions. Specifically, a stock’s Zacks Rank can change based on any of the
following factors:
• More positive revisions to other stocks – Remember that only 5% of stocks can
have a Zacks Rank of #1 at any given time (approximately 220 stocks). Let’s say that
yesterday stock XYZ had a Zacks Rank of #1. If today there are 220 or more stocks
with stronger earnings estimate revisions, then XYZ will be bumped from its #1
standing and become a #2 Rank stock. Note that a Zacks Rank of #2 is still a Buy that
has historically outperformed the market.
• Timeliness of Data – two of the four factors used to calculate the Zacks Rank
employ a 60-day window to review changes in estimates (Agreement and
Magnitude). Suppose that analysts revise their earnings estimates for stock XYZ and
the consensus moves up from $1.00 to $1.20 per share. The Magnitude piece of the
equation would show a positive revision of 20% when comparing the current estimate
to the estimate from 60 days ago. This will most likely prompt the stock to rise to a
Zacks Rank of #1. If no other revisions are made over the next two months, then the
current and 60-day old consensus will both read $1.20 per share, which equals no
change in Magnitude. This, in turn, should lower a stock’s rank, especially if estimates
are being revised upwards for other stocks.
• No Earnings Surprise – If a company meets expectations then it will not score very
high on the Surprise element of the Zacks Rank. Although meeting estimates is
something shareholders should be pleased about, merely reporting earnings that are
inline with forecasts often is not enough to sustain a Zacks Rank of #1 or #2. This
is particularly the case if there are multiple other companies that are exceeding
earnings expectations.

Integrating the Zacks Rank into Investment Strategies

The Zacks Rank works well with all investment strategies and can even help improve
performance. Here are suggestions on how to use the Zacks Rank with growth, value, buy
and hold and momentum/short-term strategies.
Growth Investing—Growth investors are generally more aggressive in nature. They are
looking for companies with high earnings growth potential, which should propel their stock
price in the future.
By concentrating on Zacks #1 Rank stocks, growth investors can easily screen for companies
exhibiting these stellar growth rates. The best part of the Zacks Rank is its ability to alert
investors, at the earliest stages, that a company’s prospects are looking very bright. And
getting in early on an emerging growth story generally leads to strong investment returns. Just
as importantly, the Zacks Rank notifies investors at the first sign of weakness (Zacks Rank of
#4 or #5), providing the opportunity to lock-in profits and avoid unnecessary losses.
Value Investing—Value investors seek out stocks selling at prices below “fair value”. Many
value investors rely on earnings measures like the P/E (price/earnings) multiple or the PEG
ratio (PE divided by growth rate) to determine whether a stock is trading at an attractive
valuation.
The key for value investors is earnings, which is the basis of most valuation models. When the
Zacks Rank signals a “strong buy” or “buy” (#1 or #2), earnings estimates for a stock are
rising. Given this new information, other investors will likely view the stock as being
undervalued relative to its future prospects. So, they jump in to run up the price of the stock.
The beauty of the Zacks Rank is that it is also a timeliness indicator, meaning that value
investors can use it to identify precisely when company’s prospects are beginning to improve
as opposed to waiting and waiting for business conditions to improve.
Value investors should plan on holding onto a stock as long as its Zacks Rank remains #3 or
higher, and other characteristics remain attractive, to maximize the upside returns.
Buy and Hold/Long-Term Investing—Investors following a buy-and-hold strategy seek to

limit portfolio turnover by holding onto a stock for a year or longer. They seek a company of
value and virtue, which they believe will consistently report solid earnings that will continue to
push the share price ever higher. The key ingredients for a buy-and-hold investor are the
fundamentals such as earnings growth, strong management/leadership, excellent products
and competitive strategy.
What is the most tangible proof that a company is worth holding for the long-term? Earnings
and earnings growth. A company that has strong management and excellent products should
be producing a steady stream of positive Earnings Estimate Revisions. Here again earnings
estimate revisions are the cornerstone of the Zacks Rank. Whenever you find positive
earnings revisions, you will generally find a company moving in the right direction that is a
candidate for long-term ownership. Therefore, buy-and-hold investors should seek out
attractively priced Zacks #1 or Zacks #2 Rank stocks. A decline in the Zacks Rank to #4 or #5
can be an early warning that business conditions are worsening and therefore that it is time to
take profits.
Momentum/Short-Term Trading
The Zacks Rank is the best friend to folks who rely on technical analysis and momentum
because it can tip them off before most other systems. Rather than simply looking for price
trends, the Zacks Rank is about “cause and effect”. The cause of the move is positive revisions
in earnings estimates. This upward shift in earnings estimates prompts more and more
investors to take an interest in the company with the effect being that the shares in the
company start on a bull run. Volume increases, as does the stock price.
Simply relying on technical analysis often doesn’t alert investors until after the move has
already begun, costing active traders opportunities to maximize profits. Conversely, by
focusing on Earnings Estimate Revisions, the Zacks Rank alerts can identify stocks that are
likely to move upward in the future – before the breakout has occurred! In other words, the
Zacks Rank helps traders get in ahead of the action. (To see why this is the case, reread Step
4 of “Zacks Rank in Action - What Causes Stocks to Rise”).
Momentum and Technical Analysis investors should concentrate on Zacks #1 Rank stocks
with the intention of selling any stock that drops to Zacks Rank #2 or lower.
“I pay a lot of attention to sell recommendations from

Zacks to dump stocks before they go bad.”
LeRoy L. Lynn
Laramie, WY
The Difference between Average Brokerage

Recommendation (ABR) and the Zacks Rank
Zacks provides the average brokerage recommendation (ABR) for thousands of stocks for
most of the leading investment web sites. The ABR is the calculated average of the actual
recommendations (strong buy, hold, sell etc) made by the brokerage firms for a given stock.
The ABR is typically displayed with decimals (i.e., 1.52) versus the Zacks Rank, which is only
shown in whole numbers (i.e. 1, 2, 3, etc.)
Although the ABR is displayed in a range of 1-5, it should not be confused as having any
similarity to the Zacks Rank. The ABR is solely based on brokerage recommendations.
Analysts employed by brokerage firms have been and continue to be overly optimistic with
their recommendations. For every “Strong Sell” recommendation, brokerage firms assign FIVE
“Strong Buy” recommendations. Although brokerage recommendations may have some value,
on average, they have not proven to be successful in directing investors to the stocks with the
highest probabilities of rising in price.

In comparison, the Zacks Rank is applied proportionately across the universe of all stocks for
which brokerage analysts provide earnings estimates for the current year. At all times, the
same number of Zacks #1 (“Strong Buy”) and Zacks #5 (“Strong Sell”) rankings are assigned.
Further, Zacks #1 Rank stocks have generated an average annual return of +32% since 1988
versus just 5% for the Zacks #5 Rank stocks. In other words, the Zacks Rank will help you
identify the winners and avoid the losers in all market conditions.
“I bought several stocks that appeared in the Number 1 listing

that I continue to hold as ‘core holdings’”
Robert Taylor
Edisto Island, SC
Limitations of the Zacks Rank

For as powerful an investment tool as the Zacks Rank is, it is by no means fool proof. Below
are listed the main limitations of the Zacks Rank. Without considering these potential shortfalls,
it is possible to make investment decisions that are not suitable for your long-term goals or risk
tolerance. Please make sure that you understand this section fully before using the Zacks
Rank to enhance your investment returns.
Performance Relative to the Market

The movement of the overall market plays a large role in determining how stocks will perform.
As such it is very difficult for a stock to rise in the face of a bear market. We can see countless
examples of this happening during the market downdraft since 2000. Thus, it is better to think
of the Zacks Rank as an indication of a stocks relative performance to the overall market. For
example, if the market is tumbling down then a #1 Rank stock will most likely be down, but not
as much as the overall market. And when the overall market is up, then a #5 Rank stock may
very well be up, but not to the same degree as the average stock. Yet it is interesting to note
that the Zacks #1 Rank stocks overall did produce profits in 2000, 2001 and 2002 (+14.3%,
+24.3% and +1.2% respectively during this bear market stretch.)
Short-Term Indicator
With approximately two decades of data behind us we know conclusively that the effects of
earnings estimate revisions are good for a 1-3 month time frame. This makes sense when you
consider that every three months a company will provide a new round of earnings that wipes
the slate clean on any previous announcements. Yet, even long-term investors get caught up
with the fever for wanting to own just #1 Rank stocks. Unfortunately being long-term and a #1
Rank zealot are not compatible. Remember that only the top 5% of companies receiving
positive estimate revisions in the last 60 days will be a Zacks #1 Rank stock. There is pretty
stiff competition for those slots in the top 5% and a company can be on today and be off to-
morrow if another company receives stronger estimate revisions. However, that company that
slipped out of the #1 Rank position may still be an excellent investment. So, long-term
investors should be comfortable with ownership of shares that have Zacks Ranks between
1-3. Then use any slippage to #4 or #5 to trim or completely sell your position in the stock.
Market Cap Bias

The larger the company, the more analysts are likely to cover the stock. The more analysts
cover the stock, the tougher it is for the stock to score big on any of the four measures of the
Zacks Rank. Thus, the list of Zacks #1 Rank stocks will be over represented by small- to
mid-cap stocks. That is why a Zacks #2 Rank large-cap stock is actually a very good thing and
one with a Zacks #3 Rank may still provide excellent upside potential relative to the overall
market. Remember to keep a diversified portfolio that includes a mix of stocks by market cap
and by industry.
Too Many Speculative Stocks

Earnings for speculative stocks (such as technology, internet and bio-tech) are the hardest to
predict. That’s because small companies make up the bulk of the speculative stock universe
and due to their size they do not get as much coverage by brokerage analysts. Further the
uniqueness of their product lines makes revenue and profit predictions very difficult. When
things go well for these companies, then the above attributes lead to exceptionally high
scoring for the Zacks Rank. So, those who strictly adhere to buying #1 Rank stocks may end
up having a disproportionate number of small growth companies in the tech, internet and
bio-tech industries. This creates a lot of volatility depending on how the market likes these
sectors at any given time. Here again, the need to keep a diversified portfolio should always
outweigh an investors desire to blindly invest in #1 Rank stocks because you do not want to
be severely over-weighted in any one sector.
Blind to Everything, But Four Measures

There are only four measures used to calculate the Zacks Rank. Three of the four measures
look at analyst earnings estimate revisions; Agreement, Magnitude and Upside. The fourth
measure considers the size of the most recent earnings surprise. You will note there is no
accommodation for other fundamental metrics such as P/E, book value, ROE, ROA, debt
ratios, growth rates, etc. Nor does it consider technical attributes such as recent changes in
price or volume. Thus, in reality the Zacks Rank acts as an initial filter that provides a raw list
of potentially successful investment candidates. With these raw lists you can do additional
research according to your own investment criteria.
“Thank you for the paramount work.”
Pierre van GALEN

Mons, Belgium


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iv © 2010 Zacks Investment Research All Rights Reserved.

Symbol Guide . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .xi

Table of Contents, cont’d.

Step 1: Identify . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .53

vi © 2010 Zacks Investment Research All Rights Reserved.

Table of Contents, cont’d.

Growth & Income Screen . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .62

Step 2: Analyze . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .71

Step 3: Manage . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .74

Table of Contents, cont’d.

viii © 2010 Zacks Investment Research All Rights Reserved.

x © 2010 Zacks Investment Research All Rights Reserved.

Exercise: Identifies activities or exercises used to review or test your knowledge in

Lesson: Designates practical information helpful in gaining knowledge and understanding

Objectives: Identifies information as well as targeted areas for discussion to be covered

Lesson Snapshot: Provides a brief summary or recap of topics or concepts covered

Web Address: Indicates a website or web address with supporting information or

xii © 2010 Zacks Investment Research All Rights Reserved.

• Introduction to the Zacks Method for Trading:

• Zacks Method for Trading

• Research Wizard Overview

C Assignments and Exercises

K The following assignments will help you in understanding the

Introduction to the Zacks Method for Trading:

Becoming a Better Trader

2 © 2010 Zacks Investment Research All Rights Reserved.

Zacks Method for Trading

Zacks Method for Trading

4 © 2010 Zacks Investment Research All Rights Reserved.

The “I AM” Goal

Research Wizard Overview

6 © 2010 Zacks Investment Research All Rights Reserved.

Lesson One—Trading the Zacks Rank

8 © 2010 Zacks Investment Research All Rights Reserved.

The objectives for this lesson include:

• Trading the Zacks Rank

• Watch DVD Disc 2: Trading with the Zacks Rank

Trading the Zacks Rank

Trading the Zacks Rank

10 © 2010 Zacks Investment Research All Rights Reserved.

The Zacks Rank vs the S&P 500

(Optional) Assignment—The Zacks Rank Guide

Harnessing the Power of Earnings Estimate Revisions

The Zacks Rank

12 © 2010 Zacks Investment Research All Rights Reserved.

Generating Positive Results

The Zacks Rank

Zacks Rank versus the S&P 500

The Zacks Rank vs. S&P 500

14 © 2010 Zacks Investment Research All Rights Reserved.

How the Zacks Rank Model Works

We then use this information to classify stocks into five groups:

The Zacks Rank

The Zacks Rank Model

16 © 2010 Zacks Investment Research All Rights Reserved.

• A Zacks #2 Rank (or Buy) should outperform the market.

Distribution of the Zacks Rank

• 5% of the stocks are Ranked a #1 or Strong Buy

Distribution of the Zacks Rank Graph