Yes, Valuations Can Be Faulty

 | Oct 17, 2013 | 12:05 PM EDT
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We've got to talk about two companies that tell you stocks are, at times, wildly divergent from the fundamentals: Best Buy (BBY) and Pioneer Natural Resources (PXD). Here are two companies that were simply priced incorrectly coming into this year. It's worth examining how that can be, because so many people, particularly academics, believe stocks are efficient judges of the businesses that underlie them.

Let's start with Best Buy. Here's a company that came in to the year at $11 as many worried that the biggest bricks-and-mortar purveyor of electronics could go under. You know the rap: Best Buy was simply the showroom for Amazon (AMZN), and Best Buy was going to go the way of the book chains and the other hardware companies, like Circuit City, and just disappear.

We even laughed last summer when the founder of the company, Richard Schulze, talked about buying the company lock, stock and barrel for $24 to $26 a share. We figured, what the heck does he know?

Now fast-forward to present day. Best Buy just got upgraded by still one more doubter, Oppenheimer, with a piece of research titled, "BBY Turnaround Has Legs, Upgrading to Outperform." Now, of course, the analyst should have upgraded before the stock rallied 260%. He'd been a skeptic by his own admission. He pointed out that he "remained among the thinning ranks of Best Buy naysayers," who were concerned about market share losses -- read: Amazon-and a not-so-hot consumer-product cycle.

But that was a totally wrong judgment made by many. First, we know from speaking to GameStop (GME) management that we're currently seeing the strongest consumer-product cycle in ages, with new machines from Microsoft (MSFT) and Sony (SNE) to play exciting titles like "Grand Theft Auto 5." Second, there's been a secular shift among Americans to buying hard goods and holding back on apparel purchases. Third, management has shaken things up, emphasizing cost controls while actually improving customer service -- something that was noticed quickly by those of us who have checked out the new Best Buy. Finally, we are discovering that Amazon, as great as it is, can't destroy everyone. It hasn't destroyed Bed Bath & Beyond (BBBY), and it hasn't destroyed Best Buy, even as the analyst community has considered both as given up for dead at the exact bottom.

As Oppenheimer says, Best Buy is now so brimming with cash that we could soon see aggressive buybacks and, at the same time, we might witness an acceleration in comparable-store sales. This is quite a change from when we worried about the company's solvency less than a year ago. While I prefer GameStop, since that's a much more direct play on the consumer hard-goods cycle, Best Buy is not done going up -- which shows you just how wrongly priced a stock can truly be.

Now, Pioneer's a rather incredible story, because here's a company that's sitting on the second-largest oil field in the world. This was confirmed last night on "Mad Money" by David Demshur, CEO of Core Labs (CLB), even as Pioneer's stock came into the year at literally half of what it sells at now. How could its Spraberry Wolfcamp field, with 50 billion barrels of recoverable oil, be such a well-kept secret, as expressed by the fact that this company was valued at just $15 billion? Fifty billion barrels of oil for $15 billion? I think it's still cheap at double the price.

Pioneer's incorrect valuation, I believe, had much to do with a negative, too-skeptical attitude that prevails among so many investors when it comes to the revolution in oil and gas in this country. Frankly, very few people believe that some old field in the left-for-dead Permian basin could be the second-biggest oil field in the world, ahead of anything in the Middle East or Russia, save for one field in Saudi Arabia. It's even more unlikely given that Pioneer cobbled the patch together from older, more established major oil companies that thought nothing was left there of any consequence. But Pioneer, teaming up with Core Labs, struck pay dirt, and every day the market's trying to revalue the stock in order to reflect the worth of the field.

To me, the stocks of both Best Buy and Pioneer are celebrations of how you can strike it rich in the market. If you checked out Best Buy, recognized the changes, looked at the financials and saw the coming turn, you could have hit a four-bagger. If you'd simply listened to the management of Pioneer at the beginning of the year, you would have known the possibilities here. The takeaway from these runs is obvious: Anyone who thinks the market is an efficient evaluator of what a company is worth has their head in the academic sand. These are not one-off experiences. We've seen the same in EOG Resources (EOG), Continental  Resources (CLR) and Cimarex (XEC) in oil, and in GameStop in retail. That not anecdotal. It's empirical. And it's the truth.



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