Value hunting

Investor’s Corner with Jack Brown

Spotting deals among the rubble is a favorite pastime of value investors. Today we highlight a few industries that may offer some opportunity given their ability to operate admirably in a most difficult time.

Warren Buffet demonstrates “Berkshire’s Corporate Performance” as book value growth. This is essentially the change in Berkshire Hathaway’s retained earnings over time, which in effect shows his ability to generate and keep earnings within his company. In his annual reports he compares these figures to the performance of the S&P 500 from 1965 to today. As you likely know, he’s been pretty good at it.

The recession has predictably hurt the “Corporate Performance” of many companies, including Mr.. Buffet’s. According to my analysis, the average company in the S&P 500 has seen a decline in book value of -12% from peak book values at the beginning of the recession, which compares to -5% for Mr. Buffet’s Berkshire Hathaway. Note that we are comparing book value to book value in this case. This may seem less than expected given a stock market price decline of -35% since September 2007. However, note that many, if not most, companies are still making money albeit a decline in revenue growth, which generally adds to its book value.

Major drug companies, it has been argued, would be decent recession plays because these businesses are able to operate effectively in tough times, and therefore their stock prices should do reasonable well. In fact, book values have declined by -5% on average for these firms, and stock prices by about -19% since September 2007 (versus -35% for the S&P 500).

Since March, value hunters have been feverishly sifting through the rubble buying stocks at depressed prices. Further, since this “smash and grab” occurred, the pickings are slimmer. However, we note the following seeming exceptions:

Metal Mining Companies – have seen book values decline by -14% versus stock price declines of -51% to date on average. Fear of investing in this business segment relates to the slow down in global demand for their services, and indeed, sales have plummeted. However, many of these businesses could recover quite nicely with economic recovery.

Crops Companies – despite market price declines in line with the market, the companies have actually grown book values by 1% on average. These businesses are subject to volatile input prices related to energy, grain, and livestock. However, sales have held up and they have managed the recession rather well – so it seems.

Oil Well Service Companies (Price decline: -39%, Book Value Change: -3%) – Competition, falling demand, volatile energy prices, nationalization, and capital expenditures have all factored in to declining sales for these businesses. Despite this, operations have held up reasonable well, and opportunities may exist for those willing to do a little homework.

Grocery Store Companies (Price decline: -28%, Book Value Change: 0%) So long as margins are maintained, grocery stores tend to do well in recessions as demand for food is inelastic. Sales have remained relatively stable as well.

Water Transportation (Price decline: -43%, Book Value Change: -8%) – As global shipping rates has seen record lows, stock prices have been hammered. Despite this, sales have held up reasonable well (-10% over the past year). Like other cyclical industries, Water Transportation could do quite well with economic recovery.

Investing in stocks is a risky business, and with opportunities comes risk. Industry standard language of speaking to your financial advisor before investing seems to fit well into today’s entry. Enjoy.


Jack Brown, CFA
Laureola Asset Management Company

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