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$10 and $20 stocks that can make you 20%

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You dont need a lot of money to turn a profit that would make Warren Buffett proud. Here are 19 stocks I think could return 20% in a year.

By Jon D. Markman

If youve got 10 bucks, a brokerage account, a little imagination and a lot of patience, you can beat the market next year. In fact, you could probably do it every year — and one day, perhaps Business Week will be calling you the next Warren Buffett, instead of giving the title to Kmart Chairman Eddie Lampert.

The benchmark for great investors, on display every time a business publication gets excited about the investment returns of Buffett or someone like him, is 20% per year. Thats just about the compounded annual return of his holding company, Berkshire Hathaway (BRK.A, news, msgs), since the late 1950s. And it is more than double the return of the S&P 500 Index ($INX) over that span, including dividends.

When hedge-fund guys get to chatting about great returns over a long period, they talk about 25% to 30% annualized. And they all recognize it is the toughest benchmark in the profession.

All you need is a $10 stock that grows to $12
But if you think about it, there is a relatively easy way to get a 20% return year after year. Not extremely easy, of course. But easier than you might think. And that is to find a single $10 stock that will grow to be a $12 stock in a year. Or a little more than $12, if you plan to sell it after 12 months and need to pay taxes on the gain.

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It would be a big risk to bet all of your money on a $10 stock, to be sure. But what if you were to acquire a small basket of $10 stocks and hold them for a year? If you focus only on ones with high MSN Money StockScouter scores, mix them up by sector, include some growth and some value and take at least one rich-yielding real estate investment trust, it shouldnt be impossible to find a few that would go to $14 or $16. Then, a couple that would go to $12 or $13. And, finally, several that would end up flat or fall far enough to trip a 10% stop-loss order. Add those up, average them out and voila! Youve got a 20% return.

Yes, a $10 stock can be risky
Of course, $10 stocks are often small caps on their way up and thus fairly risky. Or they are mid-caps on their way down — and thus also pretty risky. So you could move this exercise up a notch and find 10 $20 stocks that will rise, on average, to $24 instead. Lets try both now to see if we can earn 20% over the next year with a concept as simple as this.

For my list of stocks at around $10, I queried our database for stocks priced at between $9.50 and $10.50, market capitalizations greater than $50 million and average daily volume greater than 25,000 shares a day — plus MSN StockScouter scores greater than 8. Since there were 20 stocks meeting those criteria, I next sorted them by StockScouter factor scores, aiming to take the ones with the most As and Bs and the fewest Cs, Ds and Fs. Ive listed my $10 to $12 portfolio below.

Markmans $10 to $12 portfolio Company Size Style Industry StockScouter ranking Nov. 26 close Cornerstone Realty Income Trust (TCR, news, msgs) Small Growth REIT – Residential 10 $10.00 Famous Dave’s of America (DAVE, news, msgs) Small Value Restaurants 9 $10.21 Siebel Systems (SEBL, news, msgs) Mid Growth Applications software 9 $10.05 Pioneer Drilling (PDC, news, msgs) Small Growth Oil & gas drilling 9 $9.90 Interwoven (IWOV, news, msgs) Small Growth Business Software 9 $9.85 PolyOne (POL, news, msgs) Small Value Synthetics 9 $9.36 Government Properties Trust (GPP, news, msgs) Small Growth REIT – Residential 8 $10.62 Liberty Media (L, news, msgs) Large Growth Cable TV 8 $10.61 CMS Energy (CMS, news, msgs) Mid Value Electric utility 8 $10.32 Cardinal Financial (CFNL, news, msgs) Small Value Southeast banks 8 $9.99
This is a pretty diverse list that appears to minimize risk. It tends toward small caps, but there are a few mid-caps and large caps as well. And the sectors are all over the map, ranging from high-yielding real estate investment trusts to cable TV to banks, software, a utility and oil drilling. Most have the wind at their backs, though a couple are coming off one-year lows.

Here are the ones that appear the most interesting:

• Cornerstone Realty Income Trust (TCR, news, msgs), which pays an 8% dividend, owns and manages high-end and mid-range apartment complexes in Virginia, the Carolinas, Georgia and Texas. Returns have been solid, if unspectacular. Financial results were only fair in the last quarter, but the company says leasing momentum has strengthened. Considering the yield, though, this $10 stock only needs to advance $1.20 over the next year to provide a 20% return. It traded in the mid- to high-$11 range in most of 2001 and 2002 and appears headed back to that area.

• Famous Daves of America (DAVE, news, msgs), a Minneapolis-based franchised barbecue restaurant chain, has advanced fivefold since its all-time low in 2003 as it has successfully refocused on profitability and marketing. The stock needs to get to $12.25 over the next year — a level shareholders havent seen since 1997. Corporate executives and insiders have been buying shares on the open market all year, and, last month, the company announced a 1 million share repurchase program.

• Siebel Systems (SEBL, news, msgs), which sells software that helps large companies manage their marketing teams, only needs to get to $12.06 — a level it held as recently as April. Revenues have steadily declined in recent quarters, making the stock as cheap as it has been in years — though it is still not inexpensive. To envision $12, investors would need to be optimistic about economic growth and corporate IT spending over the next 12 months. That makes this something of a long shot.

• PolyOne (POL, news, msgs), which makes plastics and resins, needs to get to $11.25, which seems doable even though it hasnt seen that level since 2002. Sales and earnings trends have been passable, the valuation is constructive and buyers have been coming into all plastics and chemical companies in recent months.

At $20, we generate a more dynamic list
The highly rated stocks that have the potential to advance 20% by moving from around $20 to around $24 are in some ways a little more compelling. As you can see below, you have your choice of a Taiwanese wireless giant, a major U.S. oil-and-gas exploration company, a major maker of painkillers, a major oil shipper and a Dallas-based commercial bank.

Markmans $20 to $24 portfolio Company Size Style Industry StockScouter ranking Nov. 26 close Chung Hwa Telecom (CHT, news, msgs) Large Growth Wireless communications 10 $20.59 Patterson-UTI Energy (PTEN, news, msgs) Mid Growth Oil & gas drilling 10 $20.21 OMI (OMM, news, msgs) Mid Growth Shipping 10 $20.25 Hornbeck Offshore (HOS, news, msgs) Small Growth Shipping 10 $20.10 Endo Pharmaceuticals (ENDP, news, msgs) Mid Growth Drug manufacturing 9 $20.46 Eclipsys (ECLP, news, msgs) Small Growth Healthcare information technology 9 $19.73 Noven Pharmaceuticals (NOVN, news, msgs) Small Growth Drug delivery 9 $19.44 Cleco (CNL, news, msgs) Small Value Electric utilities 8 $19.73 Texas Capital Bancshares (TCBI, news, msgs) Small Growth Southwest banks 8 $20.44
The most interesting in this group:

• Chung Hwa Telecom (CHT, news, msgs), which I have held for a one-month gain of 12.4% in Strategy Lab, is one of the largest telecommunications companies in Taiwan. It has a legacy fixed-line business, but it is increasingly focusing its attention on wireless customers. The government of Taiwan owns most of Chung Hwa and would like to spin out more to the public, though it has encountered resistance from union members. With a 6.5% dividend yield, it only needs to get to around $22.80 over the next 12 months to dial in a 20% return.

• Texas Capital Bancshares (TCBI, news, msgs) is a fast-growing commercial bank that should actually do better as interest rates rise. In the third quarter of this year, the company reported that earnings per share rose 43%, loans grew 32% and deposits grew 13%. It earns a good return on capital and trades at a 19 price/earnings multiple on estimated fiscal 2005 earnings per share of $1.03, which would be another 37% year-over-year jump. Thats pretty cheap. The stock needs to get to $24.55 to record a 20% gain for shareholders.

Among the rest, Hornbeck Offshore (HOS, news, msgs) looks a bit overextended at the moment. It may backtrack before heading toward our 20% goal. Among the smaller names, Eclipsys (ECLP, news, msgs), which sells administrative and financial software to hospitals, looks like it could find favor as it is breaking out on good volume amid signs that it could finally turn profitable next year after several years of losses.

Ill check in with these in six months to see how far theyve gotten. If you have any other $10 or $20 stocks — and not ones priced $11 or $8 or $17 or $23 — that you think could gain 20% next year, write me at jon.markman@gmail.com and let me know why.

Fine Print
My Thanksgiving column, 14 turkeys that could fly in 2005, yielded a feast of responses to my request for opinions on which beaten-down MMM stock would do best next year. MMM, you may recall, stands for chipmaker Maxim Integrated Products (MXIM, news, msgs), drug maker Merck (MRK, news, msgs) and insurance broker Marsh & McLennan (MMC, news, msgs). . . . Mail was incredibly detailed and imaginative. Thanks for all of them. . . . Several readers chided chipmaker Maxim as a lousy choice because its management refuses to expense options. Many said Marsh & McLennan would not have a future because it lost the one asset that a broker has — trust. And several said they thought Merck would be tied up in lawsuits forever, making that a poor choice. But value stocks always have a lot of hair on them. Thats why their prices are so depressed. So many readers came up with reasons to buy each. . . . Maxim was deemed the best choice because its diversified range of products for the digital and analog world made it an ideal company to own in a modestly expanding economy that relies on semiconductors. Many readers said they liked Merck because they believed its phalanx of lawyers would help it avoid serious prosecution. Plus, they said, the legal claims arent as severe as they appear on the surface. And finally there were a chorus of readers who said the woes at Marsh were a big to-do about nothing. Ultimately, they said, its retroactively criminalized commission system would reappear in a more legal fashion down the road after the companys liability insurers paid a fine to settle with New York Attorney General Eliot Spitzer. . . . I see merits on all three, but I would put money on Maxim and Merck and treat Marsh more skeptically. Maxims options expensing is a nefarious — but not illegal — practice that investors have willfully ignored. The stock is expensive but will find favor with investors again if not in 2005, then in 2006 or 2007. Merck will probably escape the worst-case scenario and has a shot at coming back strong over the next few years. Although Marsh has outperformed both in the past couple of weeks, it is still hard to understand how it can win back its customers confidence and replace its lost earnings. It has no hard assets and no economic moat to prevent customers from moseying over to rivals. But new management might sweet-talk its way back into companies good graces, which will make Marsh by far the most fascinating company to watch over the next year.

Jon D. Markman is publisher of StockTactics Advisor, an independent weekly investment newsletter, as well as senior strategist and portfolio manager at Pinnacle Investment Advisors. While he cannot provide personalized investment advice or recommendations, he welcomes column critiques and comments at jon.markman@gmail.com; put COMMENT in the subject line. At the time of publication he held positions in the following stocks mentioned: Chung Hwa Telecom and OMI.