A Contrarian Play That Could Double

Last December's painful stock meltdown left a bitter taste in the mouths of most investors. For obvious reasons, shares in stocks of money management firms were among the hardest hit. Lower stock prices translated to lower assets under management (AUM). Lower AUM begets smaller profits. Who'd want to own stocks in a declining earnings environment? Additionally, traders were looking to jettison losers before Dec. 31 to harvest tax losses. That lethal combination led to huge percentage share price declines across the entire industry. So far 2019 has seen much improved market action and sentiment. While the stocks have partially recovered most remain in bargain-priced valuations. A prime example of this type play is Affiliated Managers Group . AMG topped out north of $200 during five of the last six years. The lone outlier saw a high of just $179.90. Its momentary Christmas Eve Capitulation low was $88.47. Wow. Did AMG's fundamental really merit an intra-year decline of more than $128 per share, or minus 59.2%? Hardly. Value Line expects full year 2018 EPS will register around $9.65 on a GAAP basis versus $8.72 in 2017. Value Line even projects a slightly improved showing, to $10 in EPS, for 2019. If those estimates are correct AMG was selling for just 10.5x forward earnings on Feb. 3, 2019, while yielding 1.14%. Those compare with an average P/E of 23.6x since 2010 and a typical yield of 0.65% since cash distributions were first initiated in 2017. AMG is likely to announce a dividend increase, from 30-cents to at least 35-cents quarterly, when Q4 results are released in April. A rebound to a still below average, 20x multiple, would support a 12-month target price of about $200. Value Line sees AMG's 2021 - 2023 projected price range as falling between $210 and $310 based on that same twenty multiple. Hitting that area does not seem farfetched. Remember, AMG broke above $200 on multiple occasions since 2013. I usually agree with independent research house Morningstar regarding stock selection. In this case their views and mine are a mixed bag. Morningstar does carry AMG with a 4-star, out of 5, buy rating while calling it clearly undervalued. We differ somewhat, though, on AMG's near term prospects. Their present-day fair value estimate for Affiliated Managers Group was recently lowered from $150 to $135. Even so, reaching even that modest goal would generate a $30.02 per share, or 28.6% gain from AMG's Feb. 3, 2019 quote of $104.98. Why do I think Morningstar is overly pessimistic on AMG? Their fair value estimate represents just under 7x their view of AMG's adjusted earnings for 2019, a significant discount to the stock's actual trading history. I'm a firm believer in regression to the mean. Assuming outlying valuations will continue to prevail is a statistically low probability wager. Want even better odds of making money on AMG? Consider selling some Sep. 20, 2019 expiration date puts at $110 or $120 strike prices. Worst-case, forced purchase prices dropped to about $100 or less last week, not far from AMG's fleeting, insanely low Christmas Eve pricing. Maximum profits on option sales are always limited to keeping 100% of all premium received. In these examples that would equal not insignificant amounts of either $1,270 or $1,990 per 100-share commitment. Future stock market action can never be guaranteed. We can know for sure, though, that owning AMG around the $100 mark would have been a winning position close to 98% of the time dating back more than six full years. Today's low absolute price and historically cheap valuation leave the risk reward on AMG looking fabulous. Buy some shares, sell some puts or consider doing both.

A Contrarian Play That Could Double

Affiliated Managers Group's low absolute price and historically cheap valuation leave the risk reward on the company looking fabulous.

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