By Tim Melvin, The Deep Value Letter
A deep value asset-based investor at this time last year could have defined their universe as just the S&P 500 (NYSE: SPY) and still done very well for themselves.
About 10 percent of the index was still trading below tangible book value, and there were plenty of stocks to choose from in assembling a portfolio.
There were large banks on the list like Bank of America and Citigroup as well as technology related stocks like Corning and Gamestop (GME). The refiners had just started to make a move and stock like Hess (NYSE: HES) and Tesoro (NYSE: TSO) still traded below book value. Although it was not as fertile a shopping ground as 2009 when more than 20 percent of S&P 500 stocks traded cheaply when compared to asset value, it was still a fertile area to farm.
It was a fertile hunting ground as well. An investor who split their cash up among the 50 or so companies has earned a return through Friday’s close of a little more than 35 percent. Only a small handful of stocks are lower with Newfield Exploration (NYSE: NFX) the biggest loser at down 13 percent. Gamestop (NYSE: GME) and Genworth Financial (NYSE:GNW) both better than doubled in the past 52 weeks. An investor could have focused just on very large companies that were cheap and beaten the market rather solidly as the S&P 500 index itself is up a little less than 20 percent over the same time frame.
But that was yesterday, and yesterday’s gone…
Unfortunately, pickings are not as bountiful this year after the stock markets continued rise. Only 12 stocks currently trade below tangible book value right now and are components of the widely traded index. Combined with very high readings in things like the 10-year average Price to Earnings ratio and the Tobin Q ratio, the markets would seem to be entering a somewhat dangerous level. An increase in cash levels in a deep-value portfolio in the face of a lack of new opportunities would probably be a prudent action at this point in time.
It is an interesting mixes of stocks that actually still trade below book value. After the debacle of the at few weeks shares of JC Penney (NYSE: JCP) trade at book value but that probably not going to last once they do an equity raise of almost $1 billion. Even if they do, the company appears to be broken and there are very real questions about its ability to survive. The stock may be cheap but it does not appear to have a margin of safety adequate to justify purchase.
First Solar (NASDAQ: FSLR) is still just barely on the list at a small discount to tangible book value, but the stock has doubled off the lows of last year. Buying the stock at this level would depend entirely on your outlook for the solar industry for the next few years.
The Big Players
Insurance companies make up a healthy percentage of the list. Hartford Financial (NYSE: HIG) and AIG (NYSE: AIG) have both been solid performers over the past year but are still cheap enough on a book value basis to merit consideration. AIG is currently trading at 74 percent of tangible book and Hartford is at 76 percent so they are cheap enough to buy at this level. Genworth has more than doubled but was so cheap last year that the stock is still at just 50 percent of book value. Health insurer Unum Group (NYSE: UNM) rounds out the list and is trading at a little over 95 percent of book value.
Banks dominated last year’s list and were among the top performers over the past 52 weeks. However continuing credit improvements have caused most of them to rally and just two banks in the index still trade below book value. Zions Bancorp (NASDAQ: ZION) is probably not profitable without continual loan reserve releases and the Federal Reserve has objected to parts of the banks capital plans.
That has kept a lid on the stock’s price and the stock trades at a little less than 90 percent of tangible book value. Shares of Citigroup (NYSE: C) have risen sharply this year, but the stock is still at a little less than tangible book value right now.
If the company is extracting stuff from the ground, the stock is probably cheap. That holds true with the S&P 500 bargain issues as well. Oil and gas related firms Nabors (NYSE: NBR), Rowan (NYSE: RDC) and WPX Energy (NYSE: WPX) are all trading below tangible book value right now. So is iron ore and coal miner Cliffs Natural Resources (NYSE: CLF) as global weakness and excess inventories have plagued the company.
The S&P 500 stocks trading below book value are probably excellent long-term values at the current price. However the very limited opportunity set should serve as something of a red flag for most investors.
When bargains are scarce the markets are usually becoming at least somewhat frothy and over valued.
Tim Melvin is a value investor, money manager and writer. He has spent the last 27 years as in the financial services and investment industry as a broker, adviser and portfolio manager. He has also written and lectured extensively on the markets with his work appearing on RealMoney.com, DailySpecualtion.Com as well as several print publication including Active Trader and the Wall Street Digest. Watch Tim Melvin’s FREE webinar and learn how to break through volatility using his proprietary value stock strategy.