Test Everything

 | Jun 14, 2012 | 4:30 PM EDT
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When it comes to the markets and finance, many beautiful ideas and theories can be dredged from price movements and historical patterns. They are elegant and hold the promise of untold riches -- right up to the point where you actually test and track them. I have seen just about every version of every system ever developed -- in fact, I have dreamed up more than a few of my own. Some worked; most did not. I try to always practice what I learned from hedge-fund manager Victor Niederhoffer years ago: Test everything. Some added a slight edge to my investing but most were just intellectual exercises that added to my knowledge of what does not work.

One book that never strays far from my desk is Investment Fables: Exposing the Myths of "Can't Miss" Investment Strategies by Professor of Finance Aswath Damodaran of NYU's Stern School of Business. In it, he explores many of the investment theories and approaches that have been developed over the years and exposes the flaws of each. One chapter breaks down the concept of buying stocks below book value, which is my favorite approach to investing. He finds that results are vastly improved by focusing on companies that trade below book value, have manageable debt levels and returns on equity of at least 8%. I have often set screens using these criteria, and they have provided some very successful ideas over the years.

When I ran the screen this morning, I saw some old friends are right near the top of the list. Superior Industries (SUP) and Corning (GLW) have both been on this list in the past. Both are trading right at tangible book value and if they fall to the 80% level, they will be "too cheap not to own" stocks. Corning is on track to see an uptick in global LCD demand toward the end of the year, which should boost earnings and get the stock price heading higher.

Meanwhile, Superior is an outstanding company that is suffering margin pressures as a result of contracts it entered during the height of the recession. As those contracts run off and are replaced margins should recover to historic levels and boost the stock price. Should we get a little more fear in the market that sends the Market Volatility Index (VIX) above 30, then both will be good candidates for put selling and backing into the stocks at a lower price.

Trading at 90% of tangible book value, Patterson-UTI Energy (PTEN) is also right on the cusp of being too cheap not to own. This third largest operator of land-based rigs is seeing the same pressure from lower oil and gas prices as its competitors. After shuffling its rigs around, the company now has 58% of the fleet with liquids rather than natural pressure exposure -- that should help the company withstand the industry downturn. As energy prices firm up, I could see this stock easily doubling to its highs of the past two years.

As with many of my other screens, the low price-to-book, high return-on-equity (ROE) screen shows a lot of stocks that are close to being bargains, but are not quite too cheap not to own. Practice patience. I am pretty sure you will get your chance to buy them at the right price soon.

If you do not have Professor Damodaran's website bookmarked, do it now. It is an invaluable resource.

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