Old Faithful stock picks beat market 10th time out of a dozen
Posted: April 28, 2015
Whew, that was a close one.
About once a year, I bring you some selections from my Old Faithful stock screen. They were up 15.4 percent from April 29, 2014, through April 24, 2015, just edging out the Standard & Poor’s 500 Index, which rose 15.1 percent including dividends.
I’m happy about that victory, narrow though it was, because Old Faithful is one of my favorite ways to find stocks I might want to buy. It identifies stocks that look good from four different angles:
- Profitability. The return on stockholders’ equity in the latest fiscal year was 15 percent or better.
- Growth. Earnings growth the past five years has averaged 15 percent or more.
- Financial strength. Debt is less than 50 percent of stockholders’ equity.
- Valuation. The stock sells for no more than 15 times the past four quarters’ earnings, and no more than two times revenue.
It’s a pretty conventional screen. Most graduate students in finance could design something more sophisticated. But I’ve had good results with it, both in this column and in investing for clients.
TRACK RECORD
Since 1999, I’ve written 12 columns featuring stocks drawn from the Old Faithful screen. My selections in this series of articles have outperformed the Standard & Poor’s 500 Index 10 times out of 12, and have been profitable 11 times.
The average return on my Old Faithful selections has been 25.4 percent, compared with 4.7 percent for the S&P 500 during the same 12 one-year periods.
Cautions: Column results are theoretical, and don’t reflect trading costs or taxes. Past performance doesn’t predict the future. And results of my column selections shouldn’t be confused with those I achieve for clients.
Last year’s fingernail-biting victory owed a lot to Northrop Grumman Corp. (NOC), which I selected two years in a row. It rose 37 percent last year on top of a 57 percent rise the year before.
The worst performer was Sturm Ruger & Co. (RGR), the gun maker, which fell almost 12 percent. The Gap Inc. trailed the index, returning just less than 5 percent.
The other two did well, with a 17 percent return in Western Refining Inc. (WNR) and a 29 percent gain in Mueller Industries Inc. (MLI).
FRESH RECOMMENDATIONS
Finding Old Faithful stocks to recommend is harder this year than usual. Typically about 20-30 stocks meet the statistical tests. This time only 11 did, as six years of a mostly rising market have stretched valuations. I will recommend only three of them this year.
First, I recommend Valero Energy Corp. (VLO), which is the largest U.S. independent refiner. “Independent” just means that it is not affiliated with a large integrated oil company such as Exxon Mobil or Chevron.
The smash-up in the energy industry the past 10 months affects refiners in complex ways, some good, some bad. One point that investors aren’t paying enough attention to, in my opinion, is this: Lower oil prices mean that refiners are paying less for their main raw material.
Most Wall Street analysts recommend Valero shares, yet their earnings estimates for 2016 don’t show much growth from 2015. I think there is room for positive surprises, if a better economy and fairly low gasoline prices spur gasoline consumption.
Second, I plump for Modine Manufacturing Co. (MOD), which I have recommended twice this year in other contexts. Based in Racine, Wis., Modine makes heating and cooling equipment for cars, trucks, specialty vehicles and buildings.
It counts Ford, Volkswagen, BMW, John Deere and Caterpillar among its major customers. The stock is cheap at four times recent earnings and 0.4 times revenue.
The reason it’s cheap is that the company gets close to half its sales in Europe, which right now is in recession or slow-growth mode, depending on which country you look at.
But Europe won’t be in the doldrums forever, even though the portion of European economies that runs through the government is higher than I wish.
Third and finally, I favor chicken producer Sanderson Farms Inc. (SAFM), which I own personally and for almost all of my clients. I got into this stock just in time for it to be rocked by an outbreak of H5N2 bird flu. The disease is unlikely to affect humans but can wipe out chicken or turkey flocks quickly.
Sanderson stock was over $100 for a few weeks last summer but now sells for about $76 a share. That is only six times the past four quarters’ earnings and 0.6 times revenue. Hard times may lie ahead, but these valuations pretty much discount that.
Let’s see whether Old Faithful spouts profits in the coming 12 months.