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  1. Home
  2. / Investing
  3. / Basic Materials

Don't Step Into Cement Shoes

Cement stocks were values a couple of years ago, but no longer.
By TIM MELVIN May 24, 2013 | 04:00 PM EDT
Stocks quotes in this article: TXI, CX

Anytime I mention that it is time to be cautious or that I am concerned about overall market levels, I can count on receiving several calls and emails that fit into a few themes.

The first theme will be bullish friends who do not hesitate to remind me that you cannot fight the Fed and that the only possible direction is up. My technical-minded associates will chatter endlessly about squiggly lines and oscillating thingies that indicate that the market must go higher. The last group will question my thoughts, as I have made it clear that I do not time markets, as I consider that a waste of my time and effort. This remains true, and I am not a timer. I will not short the market because I am nervous about the growing disconnects between economic activity and stock prices, but I will be awfully careful about what I buy.

If I find a stock that is too cheap not to own, I am going to buy it, regardless of my market concerns. Most of my stocks go down before they go up anyway, so a declining market won't be anything I am not accustomed to with my stocks. Truth be told, I would love to see the market plunge and create some extreme bargains. The decreasing number of cheap stocks has left me cash-heavy, and I would relish a good old fashioned nasty stock market decline. With my scale-in approach to buying, I am not only unafraid of declines, I am a fan of a big drop in the market averages. I just want to react to market selloffs and not try to predict them.

Although I do not predict market movements, that does not mean I have to be silly about approaching stocks. Right now, I am nervous about the lack of revenue growth, weak earnings growth and very poor economic background. I am restricting my purchases to just the very safe and cheap stock right now. Some stocks and sectors I am just avoiding, and I suggest others do the same, as they are simply too rich to be safe. I am starting to see some stocks that are rich enough to make me want to break out my "chicken short" portfolio once again.

In my search for stocks to avoid, I ran into a few that fit that classification. I was bullish on cement stocks two years ago and did pretty well with them. They were priced for the end of the world, and at least one of those companies had strong activist investor involvement. The stocks were cheap on the basis of earnings, cash flow and asset value, and they have done very well since then.

In point of fact, they have done a little too well. Texas Industries (TXI) bottomed in 2009 at around $12 a share as the credit and housing crisis kicked into high gear. The activist firm Shamrock was involved in the stock, and Southeastern Asset Management accumulated a huge position in the shares. Business has picked up since then for the cement and aggregates company, and this is more than reflected in the stock price. I understand that construction spending is going to pick up in the next few years, but I am doubtful it will pick up enough to justify an earnings multiple of 60.

Texas Industries' share price is now up more than 5 times the lows, and the valuation is not rich at almost 3 times both book value and sales. Business is better, but it is not good enough to justify the stock price. Debt levels have risen sharply over the past decade, and the company is not earning its interest payments of $60 million a year. If momentum investors continue to push the stock higher, it will be a great chicken short, and if you own it, it is time to think about ringing the register.

The same holds true for shares of Cemex (CX), the Mexican cement concern. This stock has more than tripled since my last recommendation to buy the stock back in October 2011. It was a great long shot when the shares were trading well below $5 a share and priced as if no one would ever build anything again. Since then, business has improved, Cemex has spun off its Latin American operations as an IPO, and it is using the money to pay down debt. Things are better, but they are not 60 times earnings better, in my opinion. The stock price is well ahead of the recovery of the business, in my opinion, and I would be a seller at this price.

I have no idea what the stock market will do in the days and weeks ahead. Some things worry me and cause me to be cautious about what I buy and aggressive about avoiding overvalued stocks and sectors. Cement stocks could easily turn into cement shoes for your portfolio at these prices and should be sold and avoided.

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At the time of publication, Melvin had no positions in stocks mentioned.

TAGS: Investing | U.S. Equity | Basic Materials

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