Keep Digging, Despite the Yellow Flags

 | Feb 26, 2014 | 3:00 PM EST
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The caution flags may be out on the broader market, but that does not mean the search for opportunities has ground to a halt. I spent most of my time running screens, reading financial filings and digging around the corners of the world's equity markets to look for safe and cheap ideas. If you are not finding as much gold as you would like, that does not mean you stop mining. Scouring the news and numbers will still occasionally turn up solid ideas, regardless of market conditions.

One of the strongest aspects of my approach involves adopting the mindset of private-equity investors, who by and large are successful, instead of trying to emulate the few successful traders in the world. Private equity has been one of the top-performing assets classes for a few decades now, and I expect it to remain so. These folks focus on buying earnings and assets on the cheap, then selling them several years later when conditions in the industry or economy have changed for the better.

Quite simply, this is a smart strategy and it works very well, allowing the potent combination of time and value to provide returns measured in multiples instead of percentages. Beyond that, this mindset enables investors to develop the patience needed to hold investments for longer than most individuals do these days.

With that in mind, this week Berlin is hosting the SuperReturn International Private Equity Conference -- and the speakers this year have presented some ideas with investable consequence for individuals. Many of the industry leaders are there talking about what they see ahead for the industry, and where there are opportunities to put money to work for high returns over the next several years. These guys are all pretty successful, so it just makes a great deal of sense to steal their ideas and insights.

Healthcare is an area that private-equity funds find very attractive right now. David Rubenstein of Carlyle Group laid out the case for investors at the conference, saying, "We believe healthcare -- because of what is going on in the United States and the aging of the population in Europe, the United States and Japan -- is a pretty good investment." I find it hard to fault the logic, and healthcare is the only sector of the U.S. economy that did not suffer declines during the recent recession. There is no reason to think spending in the sector will decrease any time soon.

The problem, from my point of view, is the current serious lack of safe and cheap stocks in the sector. I am intrigued by Five Star Healthcare (FVE), a senior-care company that operates 261 senior living communities containing 30,454 living units, as well as three rehabilitation hospitals and 13 outpatient clinics. The stock is trading at 90% of tangible book value. However, at the moment I am hesitant to add another company with serious governance issues to the portfolio. (I am already involved in two deals with the Portnoy family and their real estate investment trust management firm.) That said, should Five Star undergo a steep decline under 80% of book value, I could get interested.

Europe is the other area that private-equity industry leaders have consistently mentioned as being ripe for long-term investment. Guy Hands of Terra Firm told conference attendees that, although it will be four or five years before the eurozone's economy is back on solid footing, "I think there are incredible opportunities to make substantial amounts of money." Mr. Rubenstein clearly agrees: During his presentation he remarked, "Europe will be the market of focus in 2014."

For outside investors, it has been a little easier to find safe and cheap stocks in Europe than it has been in the healthcare patch. European banks are still very cheap, based on assets, as are the shippers. The third-largest bank in France, Crédit Agricole (CRARY) is trading at just 40% to tangible book value and looks attractive to me at this level.

In other European names, family-holding companies like Porsche (POAHY) are also trading at low ratios of asset value to price, and they have the potential to produce nice returns over the next several years. Shippers like Star Bulk (SBLK) and Global Ship Lease (GSL) are also selling way below tangible book value and have the potential for huge returns for those with a private-equity mindset.

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