Value, Value Everywhere
October 12, 2008
Let's start this installment buy agreeing that the current market is not buying value.  Not a bit.  The good and bad companies are being sold indiscriminately.  
Do these sound familiar?  "Earnings are being questioned."  "The future survival of several companies is uncertain."  "Whole industries and countries are feared to be on the brink of destruction."  "Mankind, as we know it, is teetering on the edge of anihilation."
OK, let's take a breather.  The Armmagedon we hear and read about every day in the financial world is not going to happen.  Times are tough, and problems will be solved.  Earnings may fall in many groups, but they won't go to zero across the board.
Our job is to get our shopping list ready.  I've been looking for stocks that have been deeply discounted based on earnings and cash.  These should perform fantastically when (not "if") the market rebounds. 
Low P/E and 20% Cash/share
My first scan looks for companies with the following features:
Market Cap > $500,000
Closing Price > 3
Current PE <=5
Estimated PE (future) <=5
Ratio of Cash/Share to Share Price >=20%
Latest Quarterly EPS 1 Yr Growth > 0
This scan finds all stocks with a minimum Mkt Cap and Price which trade at less than 5 times current and future earnings, have earnings growth, and trade less than 5 times cash.
Low PE with Cash

Low PE with Cash Screen

We find several shipping, Mining and Energy names here.  Further, many are trading at only 2x cash per share.  These tend to be small cap stocks, and can be very volatile.  However, for the speculative portion of your portfolio, this list is a good place to start your research.
PEG of the S&P500
The next scan is more of a list.  I analyze the S&P500 through the metric we call the "PEG Ratio".
The PEG ratio is a quick and dirty way to determine how much earnings growth is priced into a stock.  You find it by starting with the current price and divide it by earnings.  You just calculated the Forward PE.  I like to use estimated future earnings, since we are forward-looking around here.   
Now, take that and divide it by estimated earnings growth, and you have the PE/Growth number, or PEG.  This is not a magic formula for success by any means, but it does give you feel for how expensive/cheap a stock is relative to its expected earnings growth.
Below I display the PEG for all 500 stocks in the S&P 500.  Let's take a look.
PEG of S&P 500

PEG of S&P 500

The first thing to notice is that over half (281 issues, or 56%) of the stocks have a PEG between 0 and 1.00.  This is the desireable range for value-hunting.  It's also a very high percentage in my experience.
To break down the data into useable chunks, I've grouped the names by Sector: 
Number of Stocks in S&P 500
with a PEG < 1
We find that Technology, Consumer Discretionary and Industrials make up the largest group.  To account for market cap in our study, I've also shown what portion of the total each sector contributes, including only the 0 to 1 PEG stocks:
Contribution of Sectors
with a PEG < 1
Clearly, on a market cap basis, Energy needs to be considered a large contributor.
Finally, I wanted to know what portion of each sector fell into our desirable range.  My thinking is that if a large percentage, say over three quarters, of a given sector had a PEG < 1.00, then that might be interesting to investigate for opportunities.  Here's the legwork:
% of Sector with PEG < 1
What we see here is that a large percentage of the Energy, Tech, and Industrials are undervalued by this measure.  Nine in 10 Energy stocks in the S&P 500 have a PEG below 1.00, for instance.
Although oil has dropped nearly 50% since it's June highs, the forward earnings estimates still support an upward price movement in these names.  Of course, there could be plenty of revisions downward in forward estimates, but barring that, this looks like a value group. 
An interesting example in this group is Massey Energy, MEE.  It has a PEG of 0.12 (excellent), with 21% of it's current share price in cash.
When Technology stocks correct, they tend to over-shoot to the downside.  There will be plenty of winners in Technology going forward, since businesses and consumers use more and more of it every year. 
Two names to consider here are MEMC Electronics (WFR) and Jabil Circuit (JABL).  They both sport a PEG under 0.30, and have cash-to-share price ratios of 28% and 59%, respectively.
As for Industrials, there is still concern over global growth.  These names have been beaten up.  Many of these companies make the machinery that builds out the global infrastructure.  I don't believe that build out will come to a screaching halt anytime soon.  
Notable names that I have owned in the past are Terex Corp (TEX) and Manitowoc (MTW).  With PEGs of 0.22 and 0.34 respectively, and plenty of cash compared to their stock prices (31% and 26%, respectively), these names appear undervalued to me. 
Current Share Prices
 Stock    $/sh
 MEE $20.73 
 WFR $22.00
 JBL  $6.35
 TEX  $19.06
 MTW  $12.25
Disclosure:  At the time of this report, I did not own any of the stocks mentioned in the text.  I do, however, own some of the names in the S&P 500.