Yesterday's column prompted an associate to ask just how overpriced the market is right now. I don't want to make guesses about these things; my statements have been grounded in my work every day looking for cheap stocks. I shared with him some of the things I have found in recent weeks. They are worth noting on Real Money as well.
My bread and butter trade is community banks' stock. I like to buy small banks that are less than $200 million in market cap and trade below book value. I like them to have equity to asset ratios over 10%, and I prefer their loan portfolios to be in excellent shape, with nonperforming assets less than 3% of total assets. I ran a screen last night looking for banks that passed my price to book, market cap and equity to asset levels. I found 22 banks that trade more than $1000 average daily volume so there is the chance you might be able to buy a few shares. I already own 14 of them. The remaining eight either have credit problems building in their loan book or have no institutional ownership at all. There just is not much to do in the community bank space that I have not already done.
I also love to buy equity REITs below book value that I think are in decent financial shape and have strong management. I found a whopping 18 REITs below book value right now. I own seven of them and have passed on the remaining ones so far for various reasons, including leverage levels and the prospects or condition of the property portfolio. There are two that I am still doing some digging on and may buy in the future. Again, there just is not much to do in the REIT world for a deep value investor.
I also like to put on my private equity replication hat and buy companies that trade with a very low Enterprise Value to EBIT ratio. I limit my selections here to nonfinancial companies whose Piotroski F-scores indicate the fundamentals of the business are sound and improving. I have also found that you need to screen the list carefully to make sure the reason the EV/EBIT ratio is low is not that earnings are getting ready to fall off a cliff.
I found 18 companies that meet my private equity buyer criteria right now. Four of them are airlines, and unlike Warren Buffett, I am not attracted to airlines right now. I fly several times a year, and I just do not see what else they can do to improve margins. They have reduced the number of flights and charge for everything but using the restroom. As I sat with my $13 turkey sandwich and can of Pringles on my American Airlines (AAL) flight this week, I recalled the days fondly when they served an actual meal, and you could check a bag for free. I worry here that the ratios may be low because we are at peak cash flows and we will see little to no further improvement. I could be wrong, and am constantly reevaluating my thoughts on the airlines, but for now, they are a pass for me.
There are 11 stocks in the retail or apparel business. There are even a few on here, like Urban Outfitter (URBN) , that I would love to own. I think Urban has some of the best management in the business and I said as much even when I was short the stock at nosebleed valuations a few years ago. My problem with retail is that I am having a very hard time figuring out how deep the changes forced on the industry from online shopping really are, and who will survive and who won't.
What used to work for me in retail used to work very well, but it does not in the current changing environment. Sometimes you have to admit that you are an old guy who doesn't understand what is going on and pass on a given sector. That is how I feel about retail right now. Given that, there just is not much to do within my private equity replication strategies right now.
Looking at the markets, there are very few undervalued securities right now. That does not mean that we should all rush to sell what we currently own. I would suggest doing a review to make sure you love the companies you own and are comfortable with the current valuation, but I would not be a panicked seller. There is a time to buy, a time to sell and a time to do nothing. I would suggest this is a very good time to do nothing and build cash.