Last week I looked at Ben Graham's 10 criteria and broke out three of them that have worked pretty well over the years. Using the mix of earnings yield, dividend yield and reasonable debt led us to the Business Development Companies.
The list was dominated by these high-yield lenders as the group has been pressured by removal from the Russell Indexes and fears of higher rates compressing spreads in the future. I do think they represent a huge bargain opportunity, but I do not want to have my entire portfolio in these middle-market lenders. I mixed and matched the criteria a bit more to see what other potential bargains I could find.
One of the 10 criteria is a price-to-book value of 66% or less. I am a huge fan of discounted assets and that has been the core of my investment approach for decades. I also like to have a margin of safety in the balance sheet when I put money at risk, so I kept the low debt compared to assets and added the criterion of a current ratio of more than two. This should give us a list of stocks that are dirt cheap and have the financial strength to survive until they can thrive again at some point in the future.
My first observation is that this is a very short list of stocks. Out of 7,000 stocks, just 43 make the grade. It is also a list of very small companies, as just eight of the companies meeting all three criteria have more than $50 million in market capitalization. Most of the bargains I can find in today's market are companies that are not in the major indexes and ETFs and are way off the radar screen of most investors.
Among the larger names on my safe and cheap list are precious metals companies. Couer Mines (CDE) has been a holding since earlier this year as silver miners fell right along with metal prices. The stock is trading at just 57% of book value and the company has a current ratio of 3.37. It is walking the edge of having more assets than debt with the equity to asset ratio at 0.57, but it does narrowly make the grade. Couer recently renegotiated its royalty financing deal with Franco Nevada (FNV) that should improve bottom-line results by a substantial amount and that has helped the stock move higher in the past month. But it still very cheap. Analysts at Stern Agee just reiterated a price target of $18 a share last week. That's about double at the current stock price.
Asta Funding (ASFI) is one of the more intriguing companies I have run across using this screen. The company is in the debt collection business. It buys defaulted debt for pennies and then tries to collect from debtors. It can be a wildly profitable endeavor when it works. Sometimes, as has been the case with a portfolio of receivables known as the Seneca Portfolio, results have been much lower than expectations. The company just announced that it had paid the remaining amount of the loan with the Bank of Montreal that financed the portfolio and that should improve bottom-line results for Asta. There are a lot of moving parts here, as the company also negotiates personal injury settlements and structured settlements, but at the core this is a cheap stock with a lot of cash. The stock sells for just 63% of tangible book value and the current ratio is in the triple digits. It has a market cap of just $100 million and $98 million of cash on hand. The equity to asset ratio is 75%, so it easily passes that test of balance sheet safety.
It takes some digging to uncover safe and cheap stocks. Using Ben Grahams 10 criteria that he developed shortly before passing away is one of the best methods I have found for unearthing bargains in difficult markets. I have never found a stock that passes all 10, but they can be used in different matches to find bargain stocks with significant upside potential. These two larger-cap stocks pass with flying colors, but I will say that the best bargains are among the much smaller companies. It would be worth your time to sit down with a stock screener and dig for bargain issues using Graham's methods.
