19 Stingy Stocks for 2009
In good markets and bad, I look for two qualities when hunting for bargain stocks. I want them to be cheap and relatively safe. Not surprisingly, the combination can be difficult to achieve.
When composing my annual Stingy Stock list for the Canadian MoneySaver I select stocks with price-to-sales ratios of less than one. In the past few years, relatively few stocks passed this test of frugality. Due to the recent bear market more stocks made the cut this year.
Cheap stocks are great but I also want some assurance that they won't go bust. Because large firms tend to be more stable than smaller firms, I stick to stocks in the S&P 500. This is no guarantee of longevity. Indeed, several big S&P500 stocks failed this year and others were rescued by government bailouts but that didn't help shareholders much.
Because size is an insufficient measure of safety, I also look for companies with little debt and lots of assets. These firms are much stronger than levered firms living on the edge. Three ratios are very useful when searching for companies with little debt. Perhaps the most important is the debt-to-equity ratio which is calculated by dividing a company's long-term debt by shareholder's equity. The amount of debt that a company can comfortably support varies from industry to industry but debt-to-equity ratios of more than one are often too high. I prefer very conservative companies with even less debt and look for debt-to-equity ratios of 0.5 or less.
Next up is the current ratio which is calculated by dividing a company's current assets by its current liabilities. Current assets are assets, such as receivables and inventory, that can be turned into cash within the next year. Current liabilities are payments that the company must make within the next year. Naturally, an investor would like a company's current assets to be much more than its current liabilities and I prefer companies with current assets at least twice as large as current liabilities. After all, you can be pretty sure that a firm's creditors will demand prompt payment of the current liabilities. On the other hand, some current assets, such as inventory, might not actually be worth as much as management expects. Just think about the big Boxing Day sales retailers have to hold to liquidate excess inventory at the end of the holiday season.
Finally, a company's earnings before interest and taxes should be large in comparison to its interest payments. The ratio of earnings before interest and taxes to interest payments is called interest coverage and I like this ratio to be two or more. But it is important to remember that debt-free companies do not have to make interest payments and don't have an interest coverage figure. Nonetheless, debt-free firms should not be excluded from consideration.
While the debt ratios I've selected are very useful in determining a firm's ability to shoulder debt, they are not perfect. For instance, some long-term obligations may not be fully reflected on a company's balance sheet and are, sensibly enough, called off-balance sheet debt. Regrettably, off-balance sheet debt is often ignored but it can be a source of considerable consternation. Things like unexpected legal liabilities can sideswipe what might otherwise be a good investment. As with all screening techniques, be sure to embark on a more detailed investigation of each stock before making a final investment decision.
Continuing the safety theme, I also want a company to show some earnings and cash flow from operations over the last year. After all, it is less likely that a business will go under when it is profitable and has cash coming in the door.
All of my criteria are summarized in Table 1. I've used these rules to find interesting value stocks over the last seven years with some success as shown in Table 2. Unfortunately, last year was disappointing and the Stingy Stocks slipped 40.1%. They also trailed the S&P 500's loss of 37.5%.
Even with a big down year, the Stingy Stocks have yielded a total gain of 60.4% since 2001. That's assuming the old stocks were sold and the new stocks were purchased each year. In comparison, the S&P500 (as represented by the SPY exchange-traded fund) lagged by 71.7 percentage points over the same period and posted an overall loss of 11.2%.
The Stingy method found only 5 stocks last year but the bear market presents us with a buffet of 19 stocks this year. The complete list is shown in Table 3. The only two stocks to make the list two years running are Genuine Parts (GPC), and Robert Half (RHI).
I hope that I've piqued your interest, but be sure to fully investigate each stock, and talk to your investment advisor, before investing. Remember, although the Stingy Stocks are relatively safe, I think this market has made it abundantly clear that there is no such thing as a risk-free stock.
First published in the January 2009 edition of the Canadian MoneySaver.
* Typo Correction: The 2009 list was based on closing prices from October 28, 2009 and not October 27, 2009.
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