A Worthwhile Exercise

 | Jan 10, 2013 | 3:00 PM EST
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This morning, after reviewing the terms of the Supervalu (SVU) deal, I spent some time contemplating long-shot investing. Looking for stocks that are out of favor, financially stressed or otherwise battered to low levels has proven to be a valid and valuable approach to the markets. It is best used by younger, more aggressive investors but the math behind looking for stocks with the potential to recover and return many multiples of the purchase price is compelling.

Last year, I identified 26 stocks as potential long-shot investments. I had a few turkeys in the bunch, but if you bought an equal dollar amount of each, your return though last night's close is a tad north of 40%. To be sure, the rising market helped our performance, as I doubt we would have done as well had we had a down year in 2012. But this is still more than 2.5x the broader market return for the year. Looking for long shots would seem to be a worthwhile exercise.

I sat down this morning and began combing my various research stacks and sources for potential long shot stocks for 2013. Keep in mind that I believe in owning a lot of these and exercising patience and discipline. If you sink 15 or 20 % of your portfolio into one of these and it doesn't work please do not blame it on me. A proper long shot portfolio should ultimately have at least 20 names and a max 5% allocation per stock. The more, the better is my approach to these situations.

One stock that leaps out at me as a solid long shot is Panasonic (PC). I am familiar with all the issues surrounding Japanese companies, to say nothing of those specializing is consumer products. There are serious macroeconomic issues holding back the world's largest consumer electronics company, but eventually I believe we will see a consumer recovery in the world and the company should do very well. Japan accounts for 52% of its sales, but Panasonic has expanded its manufacturing around the rest of the world to diversify their business base. The company has strong exposure to emerging markets and will likely see strong growth as the middle class continues to develop in countries such as Brazil, China and India.

The stock currently trades at 1.1x tangible book value, and I would be a very interested buyer if the stock falls below that level in a downdraft. The shares trade at just 30% of the levels reached before the global slowdown started in 2008 and even a partial recover of those levels would represent a substantial return from the current price.

As we begin 2013 you can't have a list of long shots without an energy stocks. Pengrowth Energy (PGH) joined the stampede to convert from an income trust to a corporation after changes in the tax laws in late 2010. The conversion occurred just in time for oil and gas markets to sell off and the stock has tumbled by two thirds since. It doesn't help that most if it operation are in the oil sand regions of Canada and have higher costs associated with exploration and production. The company is repositioning itself to focus on thermal oil and gas extraction. It is a niche market that management is a good fit for a company their size and more importantly they will not be competing with major US based companies as they are in the oil sands operations.

Trading at 70% of tangible book value, the stock is cheap. As a bonus, the company has paid a dividend for 24 years and is committed to maintaining a payout to investors. Right now the monthly payout annualizes to 9.8%. If the company successfully transitions into a thermal extraction over the next few years and we get a firming of oil and gas prices the stock could return several multiples of the current quotation.

Looking for long shots makes sense for more aggressive long term investors with a value bias. These can be very volatile and are not for the faint of the heart but the rewards of a well-diversified portfolio of them should more than offset the risks over time in my opinion.

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