Value Investing

  • 03 Jul
    Want to limit trade war risk? Check out SCS

    Want to limit trade war risk? Check out SCS

    New Trump-imposed tariffs on China, Mexica and Canada are set to take effect at the end of this week, with retaliatory tariffs from those countries on the U.S. scheduled at the same time. The hand-wringing from politicians, talking heads and business experts continues to dominate the headlines, and I expect that the longer it continues, the more the broad market is going to have a hard time finding any really strong bullish momentum. Whether or not that translates to anything approximating a bear market also remains to be seen, no matter what the naysayers claim. Most economists and business executives, on both sides of the argument, do agree that in the long-term a trade war affects all sides negatively. I’ve even heard a few recently refer to an extended trade war as “mutually assured destruction” that will ultimately force all of the countries involved to eventually work out some kind of agreement. How soon will that happen is anybody’s guess, of course, so for the time being expect uncertainty and speculation to keep dominating the headlines and the news wires.

    As an investor, you can use the fact that a lot of companies that could, or will be directly affected by tariffs are likely to see their stocks underperform. In some cases, stocks currently at or near high levels could be pushed much, much lower, and that could create some nice value-oriented opportunities to pay attention to. As a contrarian-minded investor, I like that idea quite a bit, and so I’m watching a lot of those stocks pretty closely. Another smart thing you can do is to try to identify stocks whose actual exposure is likely to be more limited. Steelcase Inc. (SCS) is a stock that has been in business since 1912, but whose small-cap status means you’ve probably never heard of them. Despite that fact, SCS is the world’s largest maker of office furniture and office furniture systems. This is a company with a very good fundamental profile and what I think looks like a great value profile. At its current price, I also think that it represents a low-risk option if you’re looking for a way to invest in a stock that could provide some good long-term growth potential even as the U.S. keeps wrangling with its global trading partners.



    Fundamental and Value Profile

    Steelcase Inc. provides an integrated portfolio of furniture settings, user-centered technologies and interior architectural products. The Company’s segments include Americas, EMEA and Other Category. The Company’s furniture portfolio includes panel-based and freestanding furniture systems and complementary products, such as storage, tables and ergonomic worktools. Its seating products include task chairs, which are ergonomic seating that can be used in collaborative or casual settings and specialty seating for specific vertical markets, such as healthcare and education. Its technology solutions support group collaboration by integrating furniture and technology. Its interior architectural products include full and partial height walls and doors. It also offers services, which include workplace strategy consulting, lease origination services, furniture and asset management and hosted spaces. Its family of brands includes Steelcase, Coalesse, Designtex, PolyVision and Turnstone. SCS has a current market cap of $1.2 billion.

    • Earnings and Sales Growth: Over the last twelve months, earnings have declined while sales increased slightly. Most of the earnings decline was attributed in their last quarterly report to increased commodity costs in the U.S. while most of the increase in sales came from the EMEA (Europe, Middle East, Africa) region, with the greatest portion of overseas growth coming from Germany and the U.K. Revenues from EMEA operations totaled about 18.2% of the company’s total revenues, while the Asia Pacific region contributes less than 15%. The company cites Brexit uncertainty as a risk to its EMEA sales growth. Tariffs on steel and aluminum imports to the U.S. could actually benefit SCS as Canada and China provide most of the international competition in their industry.
    • Free Cash Flow: SCS’ Free Cash Flow is pretty cyclical, and declined almost 50% over the last quarter, but remains generally healthy, with almost $135 million in cash and liquid assets on their balance sheet.
      Debt to Equity: SCS has a debt/equity ratio of .36, which is pretty conservative. Their operating profits are adequate to service their debt, with good liquidity from cash to provide additional stability in this area if necessary.
      Dividend: SCS pays an annual dividend of $.54 per share, which at its current price translates to a dividend yield of 3.89%.
    • Price/Book Ratio: there are a lot of ways to measure how much a stock should be worth; but one of the simplest methods that I like uses the stock’s Book Value, which for SCS is $6.93 per share. At the stock’s current price, that translates to a Price/Book Ratio of 2.0. Ratios closer to 1 are usually preferred from a value-oriented standpoint, however higher multiples aren’t that unusual, especially in certain industries. The average for the Office Services & Supplies industry is 1.8, while the historical average for SCS is 2.7. I usually prefer the historical average as a measuring stick, which provides a long-term target price of $18.71. That’s 35% higher than the stock’s current price and would put the stock in the neighborhood of its 2-year high price.



    Technical Profile

    Here’s a look at the stock’s latest technical chart.

    • Current Price Action/Trends and Pivots: The stock is hovering near to its 2-year low price and appears to be holding solid support a little above $13 per share. Since October of last year, the stock has traded within a roughly $2 range, with resistance around $15.50 and support as already mentioned around $13. The stock’s highest level is around $18 per share, just a little below the long-term target price the value analysis I referred to in the last section provides. The stock’s all-time high is around $20 and was last reached in late 2015.
    • Near-term Keys: With the stock currently pivoting higher off of support around $13, and resistance likely around $15.50, there is some room for short-term traders to speculate on a bullish move of about $2 in the short-term. That could be a good swing trade using call options or buying the stock outright. If you’re willing to work a longer-term viewpoint, the $18 range is a reasonable level to work with as well. If the stock breaks its support around $13, it should find additional support around $12 per share. Downside risk in either the short-term or the long-term appears to be pretty low, which also means trading opportunities on the bearish side for this stock provide a very low probability of success.


  • 29 Jun
    HON is down 12% from this year’s high. Is it time to buy?

    HON is down 12% from this year’s high. Is it time to buy?

    Honeywell International Inc. (HON) is one of the largest industrial companies in the U.S. They’ve been around for more than a hundred years and have been a component of the S&P 500 index since 1964. This is a bellwether stock with global operations that, like most U.S. companies, has ridden the market’s long-term upward trend to post amazing highs. It hit a low point below $27 in February 2009 but from that point began a steady climb that peaked in January of this year at almost $165 per share. That’s an increase of more than 500% over that period that anybody would have been thrilled to get a piece of. Since that point, however, the stock has dropped back about 12%, which in the longer-term context probably doesn’t sound that alarming. It does, however beg the question: is the run over, or is this just another example of an opportunity to “buy the dip” and ride the next wave?

    Fundamental measurements for this company are, not surprisingly, quite solid in most respects. As I’ll demonstrate below, however, I believe the stock is highly overvalued by most reasonable metrics. Being overvalued by itself doesn’t, of course mean the stock is destined to keep dropping; however when you consider that the stock is down since January, but remains overvalued does suggest there is still plenty of room to keep dropping. Add in to the mix that the company is among the companies that really stand to be negatively impacted by a trade war – they have operations all over the world, with more than 50% of their sales being generated outside the United States. The longer the U.S. and its trading partners remain at odds and choose to escalate trade tensions rather than finding a way to negotiate their way to compromises, the more the risk that companies like HON could see their stock prices continue to fall.



    Fundamental and Value Profile

    Honeywell International Inc. is a technology and manufacturing company. The Company operates through four segments: Aerospace, Home and Building Technologies, Performance Materials and Technologies, and Safety and Productivity Solutions. The Company’s Aerospace segment supplies products, software and services for aircraft and vehicles that it sells to original equipment manufacturers (OEMs) and other customers. The Home and Building Technologies segment provides products, software, solutions and technologies that help owners of homes stay connected and in control of their comfort, security and energy use. The Performance Materials and Technologies segment is engaged in developing and manufacturing materials, process technologies and automation solutions. The Safety and Productivity Solutions segment is engaged in providing products, software and connected solutions to customers that manage productivity, workplace safety and asset performance. HON has a current market cap of $108.4 billion.

    • Earnings and Sales Growth: Over the last twelve months, earnings and sales both increased, with earnings growing a little over 17% while sales increased about 9.5%. Growing earnings faster than sales is difficult to do, and is generally not sustainable in the long term, but it is also a positive mark of management’s ability to effectively maximize the company’s business operations.
    • Free Cash Flow: HON has very healthy free cash flow of more than $5.2 billion over the last twelve months. This is a number that has climbed steadily on a yearly basis going all the way back to the last quarter of 2011.
      Debt to Equity: the company’s debt to equity ratio is .72, which is a pretty conservative number. Their balance sheet shows operating are sufficient to service their debt, with plenty of cash and liquid assets to make up any shortfall and provide additional financial flexibility.
    • Dividend: HON pays an annual dividend of $2.98 per share, which at its current price translates to a dividend yield of 2.05%.
    • Price/Book Ratio: there are a lot of ways to measure how much a stock should be worth; but one of the simplest methods that I like uses the stock’s Book Value, which for HON is $23.80 per share. At the stock’s current price, that translates to a Price/Book Ratio of 6.09. Ratios closer to 1 are usually preferred from a value-oriented standpoint, however higher multiples aren’t that unusual, especially in certain industries. The average for the Industrial Conglomerate industry is only 3.7, and even more importantly, the historical average for HON is 4.6. A value at par with the industry average would put the stock at around $88 per share, and at its historical average it would be $109.48. That means that from a value standpoint, the downside risk is either 25% or nearly 40%, depending on which metric you prefer to use. Either way, the stock is clearly overvalued and would be very hard to justify as any kind of value-based investment.



    Technical Profile

    Here’s a look at the stock’s latest technical chart.

    • Current Price Action/Trends and Pivots: The red, diagonal line traces the stock’s upward trend trend dating back to October of last year. It is also the basis for calculating the Fibonacci retracement lines on the right side of the chart. The stock has been holding practically on top of the 38.2% retracement line since April, and could be forming a third consecutive pivot low at that level right now. This could mark the beginning of a Triple Bottom formation, which is usually taken as a positive, bullish pattern; however the stock would have to break above the $152 level, which I’ve marked with the dashed yellow line and is which has also been acting as powerful resistance for the the past four months. A break above that level should provide bullish momentum to as far as $165, which is around the stock’s all-time highs. A break below $142, which is where the stock’s current support lies should be taken as a good indication the stock is indeed reversing its long-term upward trend.
    • Near-term Keys: If the stock breaks below $142 as just mentioned, and some of the broader market’s trade war and other global risks remain in place, I believe the stock could easily drop to as low as $128 before finding any kind of significant support. A drop to that level would also translate to a legitimate downward trend that could keep the stock dropping to somewhere between $105 to $110 per share – which would match the current minimum downside risk my earlier value analysis suggests. These could be opportunities for shorting the stock or working with put options. If the stock does recover bullish momentum and manages to break the $152 level, there could be an attractive opportunity to work with the long side by either buying the stock outright or using call options.


  • 28 Jun
    DISH: Dead cat bouncing, or incredible bargain?

    DISH: Dead cat bouncing, or incredible bargain?

    Consumer trends can be a fascinating thing to watch, despite the fact that sometimes they are fickle. That’s because sometimes those trends can give you important clues about the viability of certain products or ways of approaching business. It’s easy to get caught up in the excitement of a new, groundbreaking technology, for example, but if the buying public doesn’t buy it, it doesn’t matter how great the tech is; it isn’t going to stick around for very long.

    In the 1980’s, my parents bought a video tape player for the family. We were excited because we could finally watch movies in our home without having to wait for network TV to broadcast them for us. The player was a Betamax player, and my dad went to great lengths about why Betamax players were superior to the VHS players we had been hassling him about. And it’s true, it was a terrific piece of machinery, and I thought that the quality of our home recordings, and of movie tapes in general, was far better than any comparable VHS tape.

    The thing was, not many other people felt the same way – or cared enough to make Betamax more than a passing fad. By the beginning of the 1990’s, Betamax was a thing of the past. We still had our player, and the tapes with our home recordings, but guess what we had sitting right on top of it? You bet – a VHS player, and all of the movies we bought to keep at home were VHS tapes. If you invested back then in Betamax development, you probably lost a lot of money.



    The same idea can be applied to very mature businesses as well; the advent of one kind of new technology often means that a previously lucrative and growing technology becomes obsolete. That is especially true if the new technology is widely adapted and erodes the consumer base the older technology relied on. Cable and satellite broadcasting is one of those mature technologies that consumer trends show may be looking at the end of its usefulness in the not-so-distant future. More and more customers of all ages are “cutting the cord” with traditional television viewing in favor of on-demand, web-based streaming services. It’s a trend that has built Netflix (NFLX) into a media powerhouse with a market capitalization larger than the Walt Disney Company (DIS) and has traditional broadcasting networks scrambling to find ways to evolve and survive.

    Dish Network Corporation (DISH) is among a number companies in the Media industry that finds itself at a crossroads, with a still large, but dwindling subscriber base that requires attention and a high level of service and quality, but a desire to redirect its business to evolve with the needs of a changing business landscape. The market has seen the numbers about their eroding customer base and has treated the stock accordingly, driving it into a clear downward trend for the past year that has seen it lose approximately 50% of its value over that period. A clear loser in the scope of broader market performance, the stock has actually rebounded almost 16% since the beginning of June. Contrarian, value-oriented investors might be tempted to bet on a reversal of the stock’s long-term downward trend, but others would be more cautious.

    “Dead cat bounce” is a term that investors like to use to describe what happens sometimes when a stock in a long, downward trend finds support and starts to rally higher. Generally speaking, the only way a long-term downward trend can manage a legitimate reversal is if the market sees a very strong fundamental reason to start buying the stock. Often, a stock experiences that downward trend for very good reasons, and in the case of DISH, an eroding customer base is one of those very good reasons. The problem the company has in reversing the trend is that the erosion isn’t to competitors in the same business; it’s coming from a “sea change” in consumer habits and preferences that typically marks the death of one business model in favor of another. The “bounce” comes when technical traders start to buy the stock at a low point, hoping for a quick, short-term gain in the stock’s price; but since there is no fundamental reason for other investors with a longer-term perspective in mind to jump in, that gain is extremely limited in both size and duration.



    The argument long-term investors might have for DISH, and that the company is absolutely trying to communicate to the market, is the way they have decided to evolve their business. Since 2008, the company has spent more than $11 billion buying wireless spectrum frequencies in order to build their own 5G wireless network. Their founder and CEO relinquished his role as chief executive at the end of 2017 to focus on developing that part of the business. The challenge is that the company is generating zero revenue from the licenses they hold, and they won’t begin to see any return on their already large and ongoing investment until they complete the buildout of their network sometime in 2020. So is DISH a “dead cat bounce” that only a fool would try to work with, or a real bargain opportunity? Here’s a few numbers to consider that might help you make your own decision.

    Fundamental and Value Profile

    DISH Network Corporation is a holding company. The Company operates through two segments: Pay-TV and Broadband, and Wireless. It offers pay-TV services under the DISH brand and the Sling brand (collectively Pay-TV services). The DISH branded pay-TV service consists of Federal Communications Commission (FCC) licenses authorizing it to use direct broadcast satellite and Fixed Satellite Service spectrum, its owned and leased satellites, receiver systems, third-party broadcast operations, customer service facilities, a leased fiber optic network, in-home service and call center operations, and certain other assets utilized in its operations. The Sling branded pay-TV services consist of live, linear streaming over-the-top Internet-based domestic, international and Latino video programing services. The Company markets broadband services under the dishNET brand. The Company makes investments in the research and development, wireless testing and wireless network infrastructure. DISH has a current market cap of $7.7 billion.

    • Earnings and Sales Growth: Over the last twelve months, earnings and sales both declined modestly, with earnings decreasing at a slightly greater rate (almost 8%) than sales (6%). In the last quarter EPS actually increased almost 23% while sales declined about 1%.
    • Free Cash Flow: DISH has very healthy free cash flow of more than $2.2 billion over the last twelve months, despite its decline from a little over $2.4 billion in late 2017.
    • Debt to Equity: the company’s debt to equity ratio is 2.07, which is high; levels at 1 or below are preferred. However, the company’s balance sheet indicates operating profits are more than adequate to service the debt they have, with adequate liquidity from their cash flow to provide additional stability and flexibility. High debt to equity ratios are also pretty normal for this industry.
    • Dividend: DISH does NOT pay a dividend, which is normal for stocks in the Media industry.
    • Price/Book Ratio: there are a lot of ways to measure how much a stock should be worth; but one of the simplest methods that I like uses the stock’s Book Value, which for DISH is $15.69 per share. At the stock’s current price, that translates to a Price/Book Ratio of 2.14. Ratios closer to 1 are usually preferred from a value-oriented standpoint, however higher multiples aren’t that unusual, especially in certain industries. The average for the Media industry is 2.2, and the historical average for DISH is 6.53. The stock would have to move above $100 to be at par with the its historical average. While I believe that is an over-optimistic target on even a long-term basis, it does suggest that the stock’s 52-week high, which was $66 in July of last year, is useful and within striking distance over time.



    Technical Profile

    Here’s a look at the stock’s latest technical chart.

     

    • Current Price Action/Trends and Pivots: The red, dotted diagonal line traces the stock’s decline and concurrent downward trend for the past year. The stock has been rebounding since the beginning of this month but is now pushing directly up against that downward trend, which should push the stock back down to retest its recent pivot low around $29. A drop back down from that line, to around $31 would be a good sign that the “dead cat bounce” effect is at play. On the other hand, a push above the line to the $35 level, or better, $36 should give the stock some good short-term momentum to push up to the $40 level. That’s a range that short-term traders could find useful for a bullish trade. The stock would have to break above $40 to mark a legitimate reversal of the long-term downward trend.
    • Near-term Keys: Look for the stock to break above $35 per share. A move above this level could be a good opportunity to enter a bullish trade, either by buying the stock or working with call options. A move below $31, on the other hand could suggest the stock’s downward trend will reassert itself and push the stock even lower than $29, which could be a good opportunity for a bearish short-term trade by either shorting the stock or working with put options.


  • 26 Jun
    EMN dipped below $100 today. Is it a good buy?

    EMN dipped below $100 today. Is it a good buy?

    Trade tensions seem to have finally caught up to the market, as the last week has prompted investors to start selling. Despite today’s rally, the S&P 500 is off about 2.2% from a high point around 2,788 earlier this month. Those tensions have particularly followed U.S. stocks that do a significant portion of business overseas, and even more specifically those with major exposure in China. EMN fits that description; as of March of this year, the company estimated that 28% of its business came from the Asia/Pacific region, with the lion’s share of that business in China. That has pushed the stock off of its all-time highs around $110 in the last couple of weeks to its current price. A drop of about 10% in price marks a significant retracement and correction of the stock’s long-term trend, which is still more than 50% higher than it started a year ago. The stock is approaching an important support level that could mark a major turning point for investors.

    I think that despite the stock’s getting solid fundamental profile, and recovery to the stock’s previous highs is anything but a given, especially given the preference shown so far by both the U.S. and its trading partners to escalate trade tariffs. The market abhors any kind of conflict that could impact trade, and so I think the near-term risk for stocks like EMN is that the absence of satisfactory resolutions is going to limit their upside. The larger risk is that those tensions could force prices even lower and push these stocks into longer-term downward trends. EMN is very close to what I think it is an important signal point that investors can use to plan their strategy in either direction.



    Fundamental and Value Profile

    Eastman Chemical Company (Eastman) is an advanced materials and specialty additives company. The Company’s segments include Additives & Functional Products (AFP), Advanced Materials (AM), Chemical Intermediates (CI), and Fibers. In the AFP segment, it manufactures chemicals for products in the coatings, tires, consumables, building and construction, industrial applications, including solar energy markets, animal nutrition, care chemicals, crop protection, and energy markets. In the AM segment, it produces and markets its polymers, films, and plastics with differentiated performance properties for end uses in transportation, consumables, building and construction, durable goods, and health and wellness products. The CI segment leverages large scale and vertical integration from the cellulose and acetyl, olefins, and alkylamines streams to support its specialty operating segments. Its product lines in Fibers segment include Acetate Tow, Acetate Yarn and Acetyl Chemical Products. EMN has a current market cap of $142.6 billion.

    • Earnings and Sales Growth: Over the last twelve months, earnings grew almost 22% while sales grew about 13%. Growing earnings faster than sales isn’t easy, and over time isn’t really sustainable, but it is also a positive mark of management’s ability to maximize their business operations.
    • Free Cash Flow: EMN has generally healthy free cash flow of $939 million over the last twelve months. This number has improved markedly since June of last year, when free cash flow was a little over $650 million.
      Debt to Equity: the company’s debt to equity ratio is 1.12, which is a little high; levels at 1 or below are preferred. However, the company’s balance sheet indicates operating profits are more than adequate to service the debt they have.
      Dividend: EMN pays an annual dividend of $2.24 per share, which translates to an annual yield of 2.22% at the stock’s current price.
    • Price/Book Ratio: there are a lot of ways to measure how much a stock should be worth; but one of the simplest methods that I like uses the stock’s Book Value, which for EMN is $39.40 per share. At the stock’s current price, that translates to a Price/Book Ratio of 2.55. Ratios closer to 1 are usually preferred from a value-oriented standpoint, however higher multiples aren’t that unusual, especially in certain industries. The average for the Chemicals industry is 2.8, and the historical average for EMN is 3.0. That translates to about 15% upside in the stock right now, which would push its price a little above its 52-week highs.



    Technical Profile

    Here’s a look at the stock’s latest technical chart.

    • Current Price Action/Trends and Pivots: Since early March, the stock has operating within a range between about $100 on the low side and $110 on the top end. The chart above uses the red diagonal line to trace the stock’s upward trend from August of last year to its peak in March, and then calculate Fibonacci retracement levels. Today’s movement has the stock possibly breaking the first level of Fib support. That’s interesting, but the real signal is at the next level, shown as the 50% retracement level (technically not a Fibonacci number, but still often an important level of emotional price activity) at around $97 per share. That range also coincides with the stock’s long-term trend line as calculated by a 200-day moving average and which is taken by technical traders as an important indicator of the stock’s long-term trend. The stock could use that level as support anywhere between its current price and $97, which would generally confirm the long-term trend. On the other hand, a break below $97 could mark a critical reversal point where the long-term trend shifts from up to down.
    • Near-term Keys: Watch the stock’s activity between $100 and $97 per share. A pivot back to the upside, with a push above $101, would certainly suggest the stock should at least push back into the $110 range and could offer a good short-term bullish trade by buying the stock or using call options. A break below $97 would probably not see any kind of pause in downward momentum until about $93 per share, or in more extreme cases, possible as low as the $85 to $86 range. If you don’t mind working with downward price patterns and trends, that could be an opportunity to short the stock or to work with put options.


  • 20 Jun
    Will DKS break out, or break down?

    Will DKS break out, or break down?

    At the end of May, Dick’s Sporting Goods (DKS) released its latest quarterly earnings report, and the numbers soundly beat Wall Street’s expectations. That spurred the stock, which had been mostly range-bound since the beginning of the year, to break out in a big way, with an overnight move of more than 26% to around $38 per share. More →

  • 17 Oct
    This Strategy Has Beaten Growth Investing 94% Of The Time

    This Strategy Has Beaten Growth Investing 94% Of The Time

    • I’ll analyze market data since 1927, and look at growth versus value returns.
    • I firmly believe that value investing returns can be further increased by applying a bit of common sense.
    • The differences in risk and returns are staggering, but few will actually become value investors.



    Introduction

    It’s almost funny that Eugene Fama, the Nobel prize winner and face behind the efficient market craze, has evolved over time and acknowledged that value investing beats growth.

    The two market anomalies that show how markets aren’t efficient after all are size and value. The findings were published in the now famous 1993 Journal of Financial Economics article by Fama and French, Common Risk Factors In The Returns On Stocks and Bonds. Markets aren’t efficient and you can easily beat the market by following a value strategy and by buying small caps (stocks with a market capitalization below $2 billion). More →

  • 28 Sep
    This Is How You Find Stocks With A Margin Of Safety

    This Is How You Find Stocks With A Margin Of Safety

    • It’s impossible to accurately determine the actual value of a stock, but there are some methods that allow you to come close.
    • What’s even better is when you can buy at a price much lower than your intrinsic value calculation.
    • Qualitative factors can also help in assessing the margin of safety.

    Introduction

    The best investments are those that carry no risk with unlimited upside.

    Given that the markets are inefficient, it’s possible to find such investments and in today’s article, I’m going to describe the best ways to figure out what the margin of safety is in an investment. More →

  • 11 Aug
    Is Value Investing Dead?

    Is Value Investing Dead?

    • The last 10 years have been terrible for value investors as it has seemed like fundamentals don’t matter at all anymore.
    • There are limited options to be a value investor as the Russell 1000 value index has a price to book ratio above 2.
    • I’ll discuss three options for what a value investor can do and the historical results of such approaches.

    Introduction

    If you’re a value investor or have been invested in a value fund, you probably aren’t the happiest investor in the world right now. More →

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