How to Choose Promising Stocks for Long-Term Investments
1. Fundamental Selection Criteria
The correct selection starts with analyzing the financial stability and profitability of a company. Key metrics help filter out risky assets and focus on businesses with real growth potential.
1.1 Free Cash Flow (FCF)
Free Cash Flow reflects the company’s ability to generate cash after capital expenditures. A positive FCF over the last three to five years indicates that the business can grow, pay dividends, and service debt without external capital.
1.2 Return on Equity (ROE) and Return on Assets (ROA)
An ROE above 15% and an ROA exceeding 8% suggest effective utilization of the company's resources. These indicators should be compared to industry averages to identify leaders in return on invested capital.
1.3 P/E and P/B Multiples
A P/E below the sector average indicates undervaluation, but it’s essential to look at the P/B ratio as well: a value below 1.5 could indicate a value trap if assets are not generating profit. The optimal P/E range lies between 10-20 for mature companies.
1.4 Debt Load (Debt/EBITDA)
A net debt to EBITDA ratio below 2x provides financial flexibility and reduces the risk of dividend cuts. A ratio above 3x puts the company at risk of facing a high debt servicing burden if interest rates rise.
1.5 Dividend Policy
Companies with a history of paying dividends for at least five years and a payout ratio in the range of 30-60% balance between rewarding shareholders and investing in growth. Stable payouts serve as additional confirmation of financial health.
1.6 Case Study: Apple
Apple has demonstrated FCF growth and ROE above 20% for the last ten years. The company’s P/E fluctuates between 20-30, but its strong brand and innovative products justify the valuation. The debt load is maintained below 1x EBITDA.
2. Technical Indicators and Trends
Even with a long-term horizon, technical analysis aids in selecting favorable entry points, minimizing the risk of buying at a peak.
2.1 Moving Averages (SMA, EMA)
A breakout above the 200-day SMA is a classic signal marking the beginning of a long-term upward trend. The crossover of the 50-day SMA and the 200-day SMA (“golden cross”) confirms the reversal.
2.2 MACD and RSI Indicators
A MACD above zero indicates bulls are in control, while an RSI in the range of 40-60 suggests an absence of overheating. Sharp exits of the RSI beyond the boundaries of 30-70 may signal the end of a trend.
2.3 Support Levels and Volumes
Entering on a pullback to support levels with increased volume confirms institutional investor interest. The volume of rising candles in an upward trend should be above average.
2.4 Example: Tesla
In 2020, the breakout of the $400 level for Tesla stock was accompanied by volume that was 150% above average, marking the start of a long-term growth trajectory up to $1200.
3. Macroeconomic and Sector Analysis
The attractiveness of companies is influenced by global and industry factors that may support or hinder growth.
3.1 Economic Cycles
In phases of economic growth, commodity and industrial companies benefit, while utilities and consumer staples prevail during recessions. The correlation between GDP and issuer revenues allows for forecasting outcomes.
3.2 Inflation and Interest Rates
Companies with low debt levels and stable FCF are resilient in an environment of rising rates. High inflation decreases consumer purchasing power and affects company margins.
3.3 Technology and Green Trends
Investments in "green energy", digitalization, and biotechnology receive support from governments and institutions. Leading companies in these areas often have access to preferential financing and attract foreign direct investment.
3.4 Geopolitics and Exports
Export-oriented companies depend on the stability of trade routes and currency exchange rates. Market diversification reduces risks associated with sanctions and local crises.
3.5 Example: Saudi Aramco
Saudi Aramco combines high profitability with geopolitical support, demonstrating resilience in payouts even amid fluctuations in oil prices.
4. Risk Management and Diversification
Reducing portfolio risks can be achieved through disciplined capital allocation and position control.
4.1 Optimal Position Size
Limiting capital exposure to no more than 5-10% in a single company reduces idiosyncratic risk. For new stocks, position size can be capped at 2-3%, gradually increasing it as positions are confirmed.
4.2 Sector Diversification
Recommended distribution: technology and growth – 20-25%, materials sector – 15-20%, finance – 15-20%, healthcare – 10-15%, ESG leaders and utilities – 10-15%, and other sectors – 10-15%. Such a balance mitigates the impact of sector shocks.
4.3 Dollar Cost Averaging
Regular purchases of a fixed amount reduce the risk of “averaging at a peak” and help smooth entry volatility amidst market fluctuations.
4.4 Stop-Loss and Take-Profit
For long-term investments, trailing stops at 15-20% below the purchase price are used. Fixed take-profits upon reaching targeted P/E or P/B multiples help lock in gains.
4.5 Portfolio Rebalancing
Annual review and adjustment of holdings when deviations exceed 10% from target levels help maintain the balance of risk and return.
5. ESG Factors and Sustainable Investing
Non-financial metrics are becoming increasingly significant for long-term investors as they reflect reputational and operational risks.
5.1 Environmental (E)
Reducing emissions, waste management programs, and transitioning to renewable energy sources lower regulatory risks and enhance the appeal of companies to “green” investors.
5.2 Social (S)
A responsible approach to employees and communities, compliance with labor standards, and participation in social projects strengthen reputation and market loyalty.
5.3 Corporate Governance (G)
An independent board of directors, transparent reporting, and protection of minority rights minimize risks of opaque decisions and conflicts of interest.
5.4 ESG Ratings
Reliable assessments can be obtained from platforms such as MSCI, Sustainalytics, and local agencies. A high ESG rating correlates with lower volatility and long-term capital growth.
6. Investment Strategies
A combination of different approaches allows for adaptation to changing market conditions.
6.1 Growth Strategy
Focus on rapidly growing companies with the potential to double revenue and profit. P/E multiples are often above average but are justified by growth rates.
6.2 Value Strategy
Seek undervalued companies with strong balance sheets and stable FCF. Low P/E and P/B ratios create a “margin of safety” when exiting a position.
6.3 Dividend Strategy
Prioritize stocks with stable payouts and moderate yields (3-5%). Dividends serve as a buffer during market downturns.
6.4 Combined Approach
A balance between growth, value, and dividend stocks reduces overall volatility while maintaining growth potential. Typically, the portfolio consists of 40% growth, 40% value, and 20% dividend assets.
7. Horizon Planning and Position Management
The duration of investments determines the focus of analysis and exit tactics.
7.1 5+ Year Horizon
Short-term fluctuations become less significant. The focus shifts to structural trends: demographics, digitalization, and “green” transformation.
7.2 Dollar Cost Averaging
Regularly investing a fixed amount over several years lowers the average entry point and minimizes timing risks.
7.3 Rebalancing
Adjusting asset shares every 12 months or when deviations exceed 10% helps maintain target allocations and reduces concentration risks.
7.4 Exit at Target Multiples
Selling when predetermined P/E, P/B levels, or a 50-100% price increase from entry are achieved allows for locking in profits and reallocating capital to new ideas.
8. Conclusion
Promising stocks for long-term investment combine a strong foundation, technical signals, resilience to macroeconomic and sector shocks, and a focus on ESG. A diversified portfolio with clear risk management and discipline allows for reliable capital growth over a 5-10 year horizon. By following a comprehensive methodology for selection and position management, investors can create a “portfolio for the future” ready for any market conditions.
