Come on, we're hardly at bubble levels

Investors and the media who were burned by the last 2 bubbles are fretting at the slightest hint of overvaluation.

By John Reese Nov 25, 2013 6:18PM

Image: Broken-Pencil (© Christian Zachariasen/Jupiterimages)Enough with the bubble talk.

 

Yes, stocks have been on a tear in 2013, and yes, valuations have risen significantly. But with the S&P 500 trading for 17.6 times trailing 12 month operating earnings, 1.46 times sales, and 2.2 times book value, we're hardly at bubble levels.

 

Don't trust the denominators of those metrics because you think the Federal Reserve's quantitative easing policies have propped them up?


To an extent and in certain areas, sure. But again, not to bubble-like proportions -- particularly not when many of the same people crying bubble have also been saying (correctly) that QE's liquidity in large part has not been making it into the broader economy.


I think the bubble talk is indicative of where investor psyches are. After two bubbles burst within eight years of each other, causing terrible stress and pain, investors and the media -- the vast majority of whom were blind-sided by the two previous bubbles -- don't want to be burned again. At the slightest hint of overvaluation, they are thus fretting about bubbles.

 

I'm not saying that stocks will keep rising indefinitely -- no one knows what will happen in the short term. The reality, however, is that many stocks in many areas of the market remain quite reasonably priced for long term investors. One area my Guru Strategies (each of which is based on the approach of a different investing great) are finding value right now is the far-from-glamorous construction and agricultural machinery industry. With an average PE-to-growth ratio of 0.60 and an average price/sales ratio of 1.1, the industry is one of the highest rated by my Validea Value Index.


Many of the stocks in this industry have been hit hard, thanks to concerns about slowing global growth (especially in China). But value investing is about finding beaten-down stocks whose shares have been hit harder than their fundamentals merit. Here are five stocks for which my models currently think that's the case. As always, you should invest in stocks like these as part of a broader, diversified portfolio.

 

Lindsay Corporation (LNN): Omaha-based Lindsay ($1 billion market cap) manufactures irrigation equipment primarily used in agricultural markets to increase or stabilize crop production while conserving water, energy, and labor. It also manufactures infrastructure and road safety products.

 

Lindsay has grown earnings per share at a 33% pace over the long haul (I use an average of the three-, four-, and five-year EPS growth rates to determine a long-term rate), which my Peter Lynch-based model likes to see. Lynch famously used the P/E-to-Growth ratio to find bargain-priced growth stocks, and when we divide Lindsay's 14.1 price/earnings ratio by that long-term growth rate, we get a P/E/G of 0.42. That falls into this model's best-case category (below 0.5). 

 

Lynch also liked conservatively financed firms, and the model I base on his writings targets companies with debt/equity ratios less than 80%. Lindsay has no long-term debt, a great sign.

 

Joy Global (JOY): Shares of this Milwaukee mining equipment provider ($5.8 billion market cap) have struggled for much of this year amid economic fears. But a couple of my models think the $5.8-billion-market-cap firm is a bargain.

 

One is the strategy I base on the writings of the late, great Benjamin Graham, the man known as the "Father of Value Investing". This stringent approach requires that a firm have a current ratio (current assets/current liabilities) of at least 2.0, and more net current assets than long-term debt. Joy has a current ratio of 2.03, and $1.6 billion in net current assets vs. $1.3 billion in long-term debt, passing both tests. It's also selling at a good price: Its P/E (using three-year average earnings, which Graham did) is just 9.4, and its price/book ratio is under 2.

 

My Joel Greenblatt-inspired model also likes Joy, thanks to its 15.9% earnings yield and 40.9% return on capital. Those figures make Joy one of the top 40 stocks in the entire U.S. market right now, according to this approach.

 

AGCO Corporation (AGCO): Based in Deluth, Ga., AGCO makes tractors, combines, hay tools, sprayers, and forage and tillage equipment. Its products are sold through more than 3,100 independent dealers and distributors across more than 140 countries.

 

AGCO ($5.6 billion market cap) has taken in more than $10 billion in sales over the past 12 months, and gets approval from my Kenneth Fisher-based model. In his 1984 classic Super Stocks, Fisher pioneered the use of the price/sales ratio (PSR) as a valuation metric. This strategy likes AGCO's 0.53 PSR, 23.8% long-term inflation-adjusted growth rate, and $3.30 in free cash per share.

 

My Lynch-based model also likes AGCO, whose 10.2 P/E and 26.1% growth rate make for a stellar 0.39 PEG ratio.

 

Caterpillar (CAT): This Illinois manufacturing bellwether ($52 billion market cap) makes everything from construction and mining equipment to diesel and natural gas engines to industrial gas turbines and diesel-electric locomotives. It posted some bad recent sales numbers, but my James O'Shaughnessy-based value model thinks its shares have gotten too cheap.

 

When looking for value plays, O'Shaughnessy targeted large firms with strong cash flows and high dividend yields. Caterpillar has more than $57 billion in trailing 12-month sales, $10.38 in cash flow per share (more than six times the market mean), and a solid 2.9 % yield, all of which help it pass the O'Shaughnessy-based model.

           

Komatsu (KMTUY): Tokyo-based Komatsu ($21 billion market cap) makes and sells construction machinery and vehicles, mining equipment, forestry machines and industrial machinery.  It's another favorite of my Lynch-based strategy, thanks in large part to its 14.7 P/E ratio and 20.8% long-term growth rate, which make for a solid 0.71 PEG ratio. The strategy also likes that Komatsu's debt/equity ratio (48.6%) is well below the model's 80% upper limit.

 

I'm long JOY and AGCO.


John Reese is the founder and CEO of Validea Capital Management and Validea.com and the author of The Guru Investor: How to Beat the Market Using History's Best Investment Strategies.


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105Comments
Nov 26, 2013 4:37AM
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According to this guy, everyone should just disregard the fact that since 2011, about 60% of earnings has been derived via Stock Buybacks, not folks actually buying Products. According to this guy, everyone should disregard the FACT that pre-Financial Crisis, the Fed's balance sheet was way under $1Trillion, now it's fast approaching over $4Trillion. Scam Derivatives have gone from years under $100Trillion to YEARS over $600Trillion.

Bubbles are determine not by historical norms but your ability to monetarily deal with the current issues. Clearly as shown by the Global FEDS actions, we can't afford anything. We are borrowing heavily on Credit to do transactions, in essence, Robbing Peter to pay Paul. YOU can't predict when the Market will fall, then you are by default saying YOU can't predict when it will RISE.

I predicted not long ago that the Stock Markets couldn't rise with $4gas and rates on the 10year soaring past 3%. Rates have practically reversed course for a period and gas has dropped to nearly $3. The Fed here and abroad are doing everything possible to not lose control of Real Rates, eventually gravity will win out. Crude prices are wildly unpredictable due to massive manipulation but clearly current supply is outstripping US demand.

Nothing as of today suggests stocks selling off in a Major way this year. That could literally change overnight. Everything strongly suggest stocks selling off the longer the Feds print to infinity and buying on Margin continues to hit Record Territory. Nor should the expectations be of just a Correction. We are in way too DEEP for only that to occur. The longer this goes on, the more massive the Epic Fail. We are in a bubble because we never left the last one.

Nov 26, 2013 12:05AM
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Noted phrases within the article:   "One area my Guru Strategies . . . one of the highest rated by my Validea Value Index . . . a couple of my models think the (deleted) firm is a bargain . . .  my Lynch-based model . . . my James O'Shaughnessy-based value model . . ."

Gee, there really is a lot of "my, my, my" wormed into the piece of drivel.  Do you think the author (who is CEO of Validea Capital Management) has any reason, any reason at all to disparage talk of a bubble and encourage what amounts to "all in investing" in this clearly oversold (errr, make that over-bought---thanks "Active RIA") market?

You decide.
Nov 25, 2013 11:43PM
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as a technician or "quant" who relies on data and computer models, the author makes one, large, potentially devastating error.  his basic thesis:  

 

"But with the S&P 500 trading for 17.6 times trailing 12 month operating earnings .... we're hardly at bubble levels."

 

the error?  he uses TRAILING earnings and not FUTURE earnings.  this is like driving while staring at the rear-view mirror - sooner or later someone gets hurt badly.  we avoided the TECH BUBBLE of 2001-2002 based on no earnings support, and we avoided the CREDIT BUBBLE of 2008-2009 based on the artificial credit support and creation of mountains of artificial debt instruments, and now we will avoid the ASSET BUBBLE of 2014-2015 based on central bank artificial money supply and global mountains of sovereign, corporate and personal debt forced into deleveraging.  remember, if it sounds too good to be true (i.e. "the market can only go up") , it probably is ... and there is a very good reason the author has "rotational" portfolios at his firm (see the website) that go to cash during broad market declines ...

 

so, brush the mothballs off that strategy and just listen for the "POPS" ..... you won't be able to miss them .... stocks .... bonds .... muni-bonds ... artwork .... farmland ..... obama ..... congress ....

Nov 26, 2013 8:56AM
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BS. Don't listen or you will be sorry. The only thing holding up this market is the fed. And don't let paid hacks like Brent AKA Ex, tell you otherwise.
Nov 26, 2013 9:19AM
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And herein lies the problem - MSN is too cheap to pay for its own Financial writers so they allow posts from every Tom, Dave and Harry - The result - nothing but a bunch of self serving articles - The content is nothing more than trash - garbage being spewed throughout cyber space.

 

Come on MSN - at least give an honest disclaimer that describes the content of most articles on here as nothing more than self serving advertisements disguised as actual informative articles !

 

Nov 26, 2013 10:40AM
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The more Lemmings you get in now the more you can make shorting on the way down. Reminds me of the 70's hit "do the hustle".  Looky FB and TWIT bleeding off share value. How many  of us posting here today didn't see this coming? This is all 401k money being worked over by  funds managers because no retail person I know would have bit off this crap.  They boosted it and now they are both headed to the teens. Oh well happy days for them.
Nov 26, 2013 11:45AM
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Any one else think this guy is doing more advertising than reporting??? The Serferdude
Nov 26, 2013 12:53PM
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The real middle-class lives on a bubble...A paycheck to paycheck bubble.
Nov 26, 2013 8:32AM
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With the credit bubble just starting to come back around and we (America) being a thousand times deeper indebted, without jobs and survival assets polarized... there is ZERO chance of coming out intact. Somebody has to lose and with 90 MILLION fellow Americans already out, the obvious victim is a Kool Aid addicted zombie who believes a paper pushing button pressing job has substance. What do you REALLY know how to do and can you sustain off it? Financier is not a career.

Wal-Mart just replaced it's CEO. The new one is 47 years old. That's a college-educated moron who was fully raised in a prosperity bubble with ZERO exposure to adverse conditions. All he knows how to do is push paper and buttons. If you are in it to win it, you just got a STD and are heading out of the game.

Nov 25, 2013 10:09PM
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They must waif pot smoke through the ventilation system at the MSN Kool Aid Writer's Den of Fluff and Yellow Journalism. Haven't been outside recently, John Boy? There is no economy, no recovery and fiat-stuffed business platforms run by psychopaths haven't figured out how to sustain for a day without Ben Bernanke's QE funding their offshore accounts. Maybe we aren't in a bubble. Maybe we are in a fertilizer and oil filled meteor hurdling toward the Sun. 90 MILLION fellow Americans are un and under employed. Why MSN chooses to pay losers like this guy to write, is a wonder. Everyone with commonsense could do and knows better.
Nov 26, 2013 12:07PM
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The best part about all of these comments is you were all saying the same when the DOW was at 10000.  The author pumps and you doomsday prophesy people shout "the end is near".  Meanwhile, this middle class "lemming" is doing just fine.  These comments reek of bored, angry and unemployed.
Nov 26, 2013 1:53PM
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OLD GEEZER

WATCHED RACHEL MADCOW LAST NIGHT FOR THE FIRST TIME 

THANK GOODNESS I WAS ON AN EMPTY STOMACH
Nov 26, 2013 12:42PM
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So far this whole month I don't hear anything that reflected a real economy at all.

This is what I hear.

Stock goes down Iran deal fear, fed stop the welfare money...

Stock go up Iran deal was good, fed will continue the free money...

 

Stock goes up and down because of this and that...

Nov 26, 2013 1:44PM
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I recall a few years ago, 2010, watching a video of some crackpot predicting financial armageddon said there would be a huge run-up in equities leading up to that event (just wouldn't say when of course).  I dismissed his predictions as folly but he sure was right about the huge run-up in equities.

With the Fed printing money ad infinitum and in the process inflating seemingly fallible alternatives such as BitCoin, I really have to wonder about our future.



Nov 26, 2013 1:36PM
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HEY ALL YOU MSNBC FANS!!

THEIR MOTTO - - - -  "LEAN FORWARD"

THEY INTENTIONALLY LEFT OUT  "AND GRAB YOUR ANKLES"!!!!!!

DON'T FORGET TO SAY "AAAHHHHH"!!!!!!


Nov 26, 2013 1:08PM
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I read and see on the TV various articles that there is another housing bubble, a bubble in student loans, a bubble in oil & gas, a bubble in pipe lines, etc.  I think there is a bubble in bubbles.  I would think any bubble would be about to pop when not many are concerned about it.
Nov 26, 2013 12:54PM
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I see the Pope wrote a scathing letter against Capitalism! I guess he wasn't in the market either! Poor Pope!

Yuk yuk!
Nov 26, 2013 5:26PM
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Hardly at bubble levels? 17+ trillion in national US debt ?!?!? ... Our central bank's bloated and expanding balance sheet of 4+ trillion!!! and their wishful thinking in solving our nation's economy with ongoing QE. Add insult to injury, we have not yet reduced it, not even by a single dollar! The reality is that the stock market is addicted and dependent on QE and without it, you and I will see it go into severe withdrawal symptoms to point of possible death. The Fed has no choice but to pu**** QE drug again and again until they can't, and by that time we may enter the next great depression. Wall Street hates to hear it over and over again because they are duped into thinking QE is the answer. However, the sad reality is that Wall Street will likely be left on the side of the road with empty bags in the end. Remember, the all mighty US dollar is tied to nothing, thanks to Nixon. Cheers.

Nov 26, 2013 1:22PM
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He may have something.  In the 1990's we were going to take a company public, and the average PE multiple was 19+.

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