Stocks that rocket out of nowhere are a dangerous temptation for the average investor.
If only you could catch the next Netflix, Apple or Google before it takes off, you'd really make some serious money, right?
The problem is that line of thinking mixes investing with gambling. And you shouldn't dip into savings or jeopardize your financial security in the hope you'll hit a stock market home run.
But if you're meeting your financial needs and not taking undue risks, it's OK to take a small flier on a stock that could hit it big.
"You can't go without dessert all the time," says Charles Rotblut, vice president of the American Association of Individual Investors. A small portion of your portfolio can have an excess of risk. "You just don't want (the equivalent of) Boston cream pie every day."
There are plenty of recent precedents to fuel stock fantasies.
Netflix Inc.'s stock has quadrupled in barely a year. Shares in the movie subscription service have gone from under $50 a share in January 2010 to above $235.
And it's not just tech stocks that can skyrocket. Shares of CME Group Inc., which operates securities exchanges including the Chicago Mercantile Exchange, rose more than 20-fold in its first five years after going public. The price shot from $35 to $714 between 2002 and 2007. And Green Mountain Coffee Roasters Inc. has soared about 1,400 percent in five years.
High fliers, however, can turn into deep divers. Krispy Kreme Doughnuts Inc. stock tripled in less than a year. It reached a high of nearly $50 in 2003 before crumbling to under $5 within two years. Before that was eToys, the Internet retailer whose shares went from $20 to $84 to 9 cents in less than two years during the dot-com bubble.
For that reason, many financial advisers frown on the idea of buying stock "lottery tickets."
Investors need to be prepared to lose the money because it's very hard to pick such stocks, says Eleanor Blayney, consumer advocate for the nonprofit Certified Financial Planner Board of Standards. "I'd rather see people look at a small-cap growth fund and enjoy the bounce up that may be expected."
If you have that appetite for extra risk and some extra money, however, there are some under-the-radar stocks with well-run businesses and promising futures.
As with any stock, you want one with strong management, demonstrated potential and a business you can understand. And you should look for one with a unique product or service that can benefit from a broader trend — as Netflix did with its movies-by-mail service and then streaming video.
Here are three companies that have the potential to see significant jumps in their stock prices:
Financial Engines Inc.
Sector: Financial services
Headquarters: Palo Alto, Calif.
Recent stock price: $26.13
Financial Engines provides portfolio management services and retirement planning help to participants in 401(k)s and other employer-sponsored retirement plans. Customers include individual investors, large companies and financial advisers.
The company is well-positioned to benefit from the continuing transition from traditional pension programs to more self-directed retirement accounts, according to Chris Retzler, manager of the top-performing Needham Small Cap Growth fund, which holds the stock. Its fee-based business model — earning fees based on assets under management — should help it grow significantly, particularly as inflation increases, he says.
The stock price has doubled since the company went public last May at $12 a share, lifting its market capitalization to over $1 billion.
Imax Corp. (IMAX)
Recent stock price: $28.27
Imax, which provides the technology for giant-screen movies, already has taken off. Shares have gone from $4 to $28 in two years and doubled just since July, propelled partly by rumors that Sony or Disney could take it over.
Still, the stock is poised to rise even higher thanks to the company's joint-venture expansion strategy and the improving economy, which is encouraging moviegoers and moviemakers alike to spend more on higher-priced Imax films. As an early adopter of 3-D technology, it also will benefit as filmmakers pile into that trend.
The company shares its earnings with film companies and theater owners, which has accelerated the installation of new Imax theaters and motivated studios to make more Imax-compatible films. With fewer than 500 theaters nationwide, it is still relatively early in the adoption phase, according to Rob Lutts, chief investment officer of Cabot Money Management in Salem, Mass. His firm has owned the stock since 2009 and bought more last fall, with Lutts citing its "killer" business model and huge opportunities both in the rural U.S. and abroad. "You can't underestimate the American appetite for high-quality entertainment, and Imax theaters certainly deliver that."
SodaStream International Ltd.
Sector: Consumer goods
Headquarters: Airport City, Israel
Recent stock price: $43.43
Long established in Israel, the maker of home carbonating systems held a public offering here in November and now sells in U.S. retail chains including Bed Bath & Beyond, Macy's and Williams-Sonoma.
SodaStream's soda-making machines, which cost $80 and up, turn tap water into sparkling water and soft drinks. During the third quarter of 2010, the company reported $57 million in revenue from selling 449,000 soda makers in 41 countries. As evidence of what could happen if it catches on here, it has sold a million of the kits in Sweden.
The company has similar potential to Green Mountain Coffee and its single-cup brewing business, according to Dave Dispennette, founder and president of The Stock Playbook, a Florida-based stock advisory service. "Just as many people drink soda as coffee, maybe more," he says. "It's a product that has phenomenal growth in front of it."
The stock has doubled since its first day of U.S. trading in November.