Every investor would love to stumble upon the perfect stock. But will you ever really find a stock that provides everything you could possibly want?
One thing's for sure: You'll never discover truly great investments unless you actively look for them. Let's discuss the ideal qualities of a perfect stock, then decide if Radian Group (NYS: RDN) fits the bill.
The quest for perfection
Stocks that look great based on one factor may prove horrible elsewhere, making due diligence a crucial part of your investing research. The best stocks excel in many different areas, including these important factors:
Growth. Expanding businesses show healthy revenue growth. While past growth is no guarantee that revenue will keep rising, it's certainly a better sign than a stagnant top line.
Margins. Higher sales mean nothing if a company can't produce profits from them. Strong margins ensure that company can turn revenue into profit.
Balance sheet. At debt-laden companies, banks and bondholders compete with shareholders for management's attention. Companies with strong balance sheets don't have to worry about the distraction of debt.
Money-making opportunities. Return on equity helps measure how well a company is finding opportunities to turn its resources into profitable business endeavors.
Valuation. You can't afford to pay too much for even the best companies. By using normalized figures, you can see how a stock's simple earnings multiple fits into a longer-term context.
Dividends. For tangible proof of profits, a check to shareholders every three months can't be beat. Companies with solid dividends and strong commitments to increasing payouts treat shareholders well.
With those factors in mind, let's take a closer look at Radian Group.
What We Want to See
Pass or Fail?
5-year annual revenue growth > 15%
1-year revenue growth > 12%
Gross margin > 35%
Net margin > 15%
Debt to equity < 50%
Current ratio > 1.3
Return on equity > 15%
Normalized P/E < 20
Current yield > 2%
5-year dividend growth > 10%
2 out of 9
Source: Capital IQ, a division of Standard & Poor's. NM = not meaningful due to negative earnings. Total score = number of passes.
With only two points, Radian isn't doing a good job of putting a roof over investors' heads. The mortgage insurer has done a good job just surviving the past several years, but conditions continue to threaten the stock's viability.
Radian provides mortgage insurance for homeowners and lenders. Essentially, when home buyers can't put enough money down -- typically 20% -- banks force them to get mortgage insurance from private companies like Radian. The idea is that if the value of the home falls enough to put the mortgage underwater, the mortgage insurer will make up the difference.
Obviously, the housing crisis has put a big obstacle in these business models. PMI Group (NYS: PMI) has actually had several state regulators come in and force the company to stop writing new mortgage insurance, adding insult to the injury of facing potential delisting from the NYSE. That has pulled shares of Radian and MGIC Investment (NYS: MTG) down as well.
Like bigger companiesGenworth Financial (NYS: GNW) and AIG (NYS: AIG) , Radian doesn't exclusively do business in mortgage insurance. Unfortunately, its other major line of business is in providing guarantees to financial assets like municipal bonds, which has gotten rival MBIA (NYS: MBI) in trouble.
Radian is in a tough spot, with the housing market still stubbornly weak and concerns about the economy getting even worse. Until things start to turn around for the nation as a whole, you shouldn't expect Radian to get very close to perfection.
No stock is a sure thing, but some stocks are a lot closer to perfect than others. By looking for the perfect stock, you'll go a long way toward improving your investing prowess and learning how to separate out the best investments from the rest.
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At the time thisarticle was published Fool contributorDan Caplingerdoesn't own shares of the companies mentioned in this article. The Fool owns shares of AIG. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Fool has adisclosure policy.
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