The Don't Get Killed in Your Sleep Portfolio

 | Mar 07, 2014 | 6:00 PM EST  | Comments
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Stock quotes in this article:

twmc

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rell

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clf

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cde

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sfy

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pwe

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essa

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chev

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berk

During the past few weeks I have talked quite about the caution flags and lack of safe and cheap opportunities in the current market. I was asked last night what I would do if I had a chunk of money to put to work right now. Which stocks would I buy if I was developing a brand new portfolio from scratch right this minute?

As it so happens I have a new slug of cash coming under management in the next few weeks. My wife has decided she does not wish to put up with the high pressure sales environment of the major banks anymore and is leaving to focus on some web based projects we have been developing. Her 401k will be rolled over and come under my full control. I am cautious and careful about what and when I buy but I suspect this portfolio will get a greater deal of attention.

I am calling this the "Don't Get Killed in Your Sleep Because You Lost Your Wife's Money Portfolio." It is one thing to take a flier or two with my own cash but I am not sure she is going to want to see that kind of risk and volatility in her retirement fund. The money won't be transferred for a few days but let's set up the thought process for managing this account.

My first focus is going to be on net-net stocks. There are not a lot of these around at the moment but if there are a few stocks that trade for less than the value of their net current assets I will be buying them pretty much right away. The first down day after the money comes in I will be a buyer. The same goes for near net-net stocks that are safe, cheap and profitable. Unless something changes dramatically over the next few days stocks like Transworld Entertainment (TWMC) and Richardson Electronics (RELL) will be among the very first stocks I buy for the portfolio. They are too cheap not to own here.

I will be looking to follow the private equity money into mining and energy related names. We have seen a growing interest in these two sectors from the big private equity money. Companies like Cliff Natural Resources (CLF) and Couer Mining (CDE) are trading at fractions of their book value and should see large gains over the next few years. The same is true of super cheap energy names like Swift Energy (SFY) and Penn West Petroleum (PWE). Following the price-to-earnings money into a sector and buying cheap assets in the industry has been a very successful approach for me and I see no reason for this not to continue into the future.

It will come as no surprise that much of the cash is going to go into small banks stocks. I have been an enthusiastic buyer of the trade of the decade stocks for a couple of years now and not much has changed in my thesis. There are still plenty of small banks that trade below book value, have solid loan portfolios and excess capital. These banks either dominate their local market place and take market share from the big banks or they are going to be forced by rising regulatory and compliance costs to merge with another bank. Either path is going to lead to much higher stock prices in the sector. Organic growth is pretty much non-existent in the banking industry so the regional banks will be enthusiastic buyers of small banks to expand their footprint and earnings power.

The majority of these banks are way too small to mention here but among the larger ones there is a good chance that banks like ESSA Bancorp (ESSA), Cheviot Financial (CHEV) and Berkshire Bancorp (BERK) make their way into the trade of the decade portion of the Don't Get Killed Portfolio. In addition to the usual safe and cheap measures I use to pick banks I will favor those that have a strong activist like Joseph Stilwell of PL Capital involved in the stock to increase my odds of living through the night.

The caution flags are flying in the market right now but to steal a phrase from Howard Marks of Oaktree, you can still move ahead with caution. I will practice what I preach and only buy on days when the individual stocks are down or the braid market is selling off. I will own small positions at first allocating roughly 1% to each stock. Even combining regular safe and cheap stocks with the trade of the decade bank stocks I don't see being more than about 40% invested initially. If they trade lower and the fundamentals remain the same I will be a scale buyer on the way down.

It is a time for increased caution but there are almost always stocks that are too cheap not to own.

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