Digging Deep for Value

 | Apr 25, 2013 | 4:00 PM EDT  | Comments
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Today I want to spend a little more time with the list of stocks with highest projected three- to five-year total return as ranked by the Value Line Research Service. I noticed that several of my favorite stocks, which have a high potential total return for long-term investors, made the grade. I took the basic list provided by Value Line and culled it by price to tangible book value to look for deep value stocks worth buying right now.

One of the first stocks to catch my attention is one I have just started to buy. Naturally, once I put buy orders in to catch the falling knife shares of Pan American Silver (PAAS) rebounded a little bit. I doubt the volatility is going to go away in the precious metals, so I expect to be able to add to my tiny starter position. Its mining interests throughout South America produce not only its namesake silver but also gold, copper, lead and zinc. The company is being hurt in the short term by metals prices and a strong dollar but it has a rock solid balance sheet with more than $500 million in cash. After the recent dividend hike, the stock yields 3.9%. This was a $40 stock not too long ago and could be one again at some point in the next five years. Trading at 80% of tangible book value, the shares are cheap enough to begin buying on a scale.

Nabors Energy (NBR) has moved up a bit since my original recommendation but it still trades at just 80% of tangible book value. The world's largest land drilling contractor is facing a drag on profit from an oversupply of rigs in North America right now, but its long-term future is actually pretty bright. The contract delays that have hindered international business appear to be resolved. As the demand for energy independence and cheap energy builds in the U.S., I can easily see this stock moving higher over next five years.

Cliffs Natural Resources (CLF) has turned into one of those stocks you hate to admit you own -- but own it I do. The company reported earnings this morning that were 70% lower than last year, but actually beat the Street's pessimistic estimates. In spite of terrible conditions in the iron ore market Cliffs is still profitable and it seems unlikely that it will post a loss anytime soon. The company used the proceeds of an equity and preferred offering earlier this year to pay down debt and build cash to ride out the global economic slowdown. At its current price, the stock trades at 70% of tangible book value. I would buy the stock  today even after its pop on the earnings beat. It is not going to be the smoothest ride you ever take, but I think patient investors will eventually be able to sell this stock for a multiple of 4x or 5x today's quote.

Trading at 40% of tangible book value, Arch Coal (ACI) is another stock I have bought on a scale as it has fallen. Its short-term outlook holds nothing brilliant or wonderful. I suspect it is going to end up being one of those I own for a few years before anything good actually happens. It needs another cold winter and some additional firming of natural gas prices before the price of thermal coal will increase enough to put this name back in the black.

The company is doing all the right things by cutting costs and extending debt maturities but its real savior will be higher coal prices -- or a takeover by a larger competitor or very patient private equity buyer. If there is no buyout, very patient investors could see a return of 2x to 3x the current price over the next five years.

You might notice that all of these stocks share a common theme. They are all natural resource stocks – these companies dig stuff out of the ground. This sector is the cheapest in the world right now. So, either the global economy is getting ready to come to a screeching and spectacular full stop or commodities will begin to improve and appreciate. I will leave the timing to the macro guys, but resources are cheap right now and I am happy to own them with an eye toward huge gains over the next half a decade or so.

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