Value Investing Frequently Asked Questions
By
J, Royden Ward, Analyst and Editor of
Cabot Benjamin Graham Value LetterOriginally published on NewsletterAdvisors.com 8/13/08
What is the Benjamin Graham Value Letter investment process and criteria for investments?I am a value investor. I look for high-quality companies that are undervalued, and companies with strong balance sheets and low price to earnings (P/E) ratios. I use the criteria spelled out by the father of value investing, Benjamin Graham. Volatility is my ally. I buy when a good company is down in price and sell when the company’s stock price is bid up to unreasonable heights. I am looking to hold a stock for a period of one to two years or longer. Typically I find companies with short-term problems, but with excellent long-term outlooks. Benjamin Graham’s advice still holds true: “Investors do not make mistakes, or bad mistakes, in buying good stocks at fair prices.”
Investing in value stocks is quite different from growth or momentum investing. We look for stocks at bargain price, so price charts are of little use. We do not recommend selling a stock because the price is declining. If a stock is a bargain when purchased, it is a better bargain at a lower price--not a candidate for a quick sale at a loss. And we don’t try to time the market. We would much rather focus on buying low, holding long term, and selling high.
What gives you an edge over other investment experts?Several factors give me an edge. I look for investment opportunities in:
Leading companies that are less volatile
Companies with low debt that are unaffected by the credit crunch
Companies whose stocks are undervalued and are less likely to decline
Companies paying adequate dividends to boost returns during a longer term holding period.
My biggest edge is my Benjamin Graham-based method of calculating an optimum buy price and sell price for each stock in my database. I call my buy and sell prices “Maximum Buy Price” and “Minimum Sell Price.” I have taken the guesswork out of when to buy and when to sell. Buy when a quality company’s stock price declines to my Maximum Buy Price and hold until your stock reaches my Minimum Sell Price.
What are your short-term and longer-term views of the markets?I try not to get caught up in market or sector forecasts. My objective is to buy stocks that are undervalued. Your goal should be to consistently buy leading companies at reasonable valuations. Then your long-term objectives will be met, despite wild fluctuations in the stock market. One of my favorite quotes from Warren Buffett is: “Look at market fluctuations as your friend rather than your enemy; profit from the folly rather than participate in it.”
What sectors do you think offer the most opportunities to profit today?I measure opportunity in terms of revenue and earnings growth forecast for the next year or two. I recommend broad diversification with a focus on the consumer staples, health care, energy, and technology sectors. Other sectors, such as banks and homebuilders, are clearly undervalued, but forecast revenues are cloudy at best.
What are your top three stock picks, and what attracts you to each company?Three of my current top stocks include Ingersoll-Rand Co. Ltd., Colgate-Palmolive Co., and Teva Pharmaceutical Industries Ltd.
Ingersoll-Rand (NYSE: IR) is a global manufacturer of climate control equipment, energy efficiency systems, and security locks and doors. Products include Thermo-King walk-in coolers, Schlage locks, and Trane air conditioners. The company has been divesting cyclical slow-growth segments and acquiring companies, such as Trane, that offer better growth potential. Management’s long-range plan to change Ingersoll from a cyclical company to a company with steady sales and earnings growth is working. Ingersoll-Rand’s recent purchase of Trane will add significant sales and earnings growth during the next several years. IR shares are undervalued after a recent price decline. The stock now sells at 11.2 times current EPS and at less than book value.
Colgate-Palmolive (NYSE:CL) was founded in 1806 by William Colgate in New York City and has grown into a leading worldwide manufacturer and seller of toiletries, detergents, and other household products. The company dominates the toothpaste and soap sectors and derives 67% of sales outside of North America. The company’s four-year restructuring plan is producing noticeable results. Management is focused on reducing costs, marketing efficiently, and developing new products. Colgate’s earnings per share increased 17% and sales increased 16% during the first half of 2008. Profit margins remained steady despite higher raw material costs. We believe new products and further expansion into developing countries will produce strong growth in the future. CL shares sell at 17.7 times forward 12-month EPS, which is very reasonable for a top-quality worldwide leader.
TEVA Pharmaceuticals (Nasdaq:TEVA), based in Israel, develops, manufactures, and markets generic and proprietary branded (store-brand) drugs. The company is one of the largest generic drug producing companies in the world and, in addition, sells active ingredients to other pharmaceutical companies. Teva’s largest selling drug, Copaxone, is used to treat multiple sclerosis. The company has aggressive acquisition and product development programs. TEVA recently announced its intention to purchase U.S.-based Barr Pharmaceuticals for $7.5 billion. Barr will increase Teva’s generic drug sales significantly in the United States and Europe. Also, Teva’s product pipeline is very strong with 150 new drug applications waiting for FDA approval, several of which could become blockbusters. TEVA shares are undervalued and sell at only 15.3 times forward EPS with a dividend yield of 1.2%.
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