CVX

In a recent Article by John Tamny, Forbes: To Fix The Global Economy, Fix The Dollar, the effects of a weakening dollar on the U.S. Economy were nicely summarized “When money loses value, it's the equivalent of governments raising the rate at which we pay income taxes. But with taxes, we can at least see how much the government is removing from each paycheck.”

A weakling dollar will likely be followed with higher inflation.   Although there are some who believe that a weaker dollar will strengthen our exports, the reality is that companies will be spending more to produce their goods and investors will require higher nominal pre-tax rates of return. Furthermore, an increase in the overall cost of capital for equities will result in less business expansion as companies must pay more to source their funds. 

So how do investors deal with a sluggish economy and declining dollar? As the U.S. economy faces many headwinds with a declining dollar, we recommend high quality, well managed, attractively-priced businesses with high foreign exposure.   Companies with a significant overseas exposure will likely benefit from currency appreciation against the dollar making sales in those currencies especially valuable.  

 
Using AFG’s proprietary research we thought we would provide you a solid list of well managed businesses, in the S&P 500 that also have over 50% in foreign sales.

Using AFG’s proprietary research we thought we would provide you a solid list of well managed businesses, in the S&P 500 that also have over 50% in foreign sales.

 Source: The Applied Finance Group

Valuation Signal  – Measures the percent to target (deviation between a stock’s current trading price and its AFG current default target price). To derive the intrinsic value of a firm, AFG uses its proprietary Valuation Model (modified discounted cash flow model).

Economic Margin (EM) Signal- A corporate performance measurement that addresses the gaps in GAAP, eliminating distortions caused by accounting policies to measure what a company is truly earning above or below their cost of capital.

For further guidance, we decided to contact John Tamny to ask him for his insights on what kind of stocks investors should be looking at?

John Tamny: If the dollar continues to weaken, investors will want to be in companies that are rewarded for finding physical assets of the earth (oil, gold, various commodities and businesses that serve commodity companies), while if the dollar were to strengthen or stabilize, investors would more want to be in intellectual companies such as software and other innovations

On Wednesday November 18th, Mr. Tamny, Toreador Economic Advisor and Forbes columnist will be discussing many of the reasons why a declining dollar has been hurting the growth of the US Economy along with:

• Should the dollar move to a gold standard?
• Is a trade "deficit" bad for the US Economy?
• Why a stable dollar is an essential input when it comes to economic growth.

Click here to get a replay of this talk!!

Listed below are the companies in the Energy & Extraction sector within the S&P 500 Index, ranked in order of valuation attractiveness. Currently, the Energy & Extraction sector has the highest median Value Score of all sectors according The Applied Finance Group’s April 2009 Monthly Market Review and looks to be trading at a significant discount relative to its historic valuation.

All Energy Companies (S&P 500) Ranked By Valuation Attractiveness

Energy Sector - Relative Valuation Chart

The graph above shows the median percentage upside for the Energy sector relative to the overall market across time. Values greater than 1 indicate the sector is more undervalued than the market, while values less than 1 indicate the opposite. The red line identifies the historical median value to provide a basis to understand valuation levels relative to historic norms. This example illustrates that the median Energy company is undervalued relative to the market currently and has been trading at a significant discount to its historic relative valuation, indicating a potentially attractive opportunity.

Below is a look at the YTD returns, valuation attractiveness and sales growth expectations of the two biggest and smallest companies in each sector within the S&P 500 (excluding financials). This link provides some insight into Applied Finance Group’s (AFG’s) valuation techniques. Also compare the expectations for sales growth to what the companies have delivered historically to see which stocks on this list are most likely to meet or exceed those expectations, and thus be more likely to out-perform.

 Biggest/Smallest Companies (Mkt Cap) By Sector S&P 500 (excluding financials)

*AFG’s Value Expectation allows us to understand the imbedded Sales Growth, EBITDA Margins, and Asset Turnovers a company has to deliver in the future to justify its current trading price. In theory and in normal circumstances, if the imbedded future performance is very conservative relative to the company’s historical performance, the stock is regarded as undervalued. The table displays the implied future sales growth of companies assuming their EBITDA margins and Asset turnovers stay at the 5 year median levels.

The Russell 1000 Index has lost 44% over the past year and is down 14% year to date. Similarly, the Russell 2000 Index is down 42% for the past 12 months and lost investors 18% since the beginning of this year. With both of these indexes down substantially recently by about the same amount, are large caps more attractive than small caps?

Percent to Target Charts: This graph shows the Percent to Target Current for a universe relative to the overall market. Values greater than 1 indicate the universe is more undervalued than the market, while values less than 1 indicate the opposite. The red line identifies the historical median value to provide a basis to understand valuation levels relative to historic norms.

Small Universe: Companies in the AFG universe that have a market cap less than $300 million and EPS consensus estimates are available.

This chart illustrates that the median Small Cap company is currently overvalued, relative to the market. Over the past 6 years, small Caps have been trading at a premium to their historic valuation.

Large Universe: Companies in the AFG universe that have a market cap greater than $2 billion and EPS consensus estimates are available.

This chart illustrates that the median Large Cap company is currently undervalued, relative to the market. Large Caps have been trading at a discount to their historic valuation, indicating a potentially attractive opportunity.

Following is a list of the biggest 10 companies (determined by market cap) in the Russell 1000 and Russell 2000. AFG’s Value Expectations interface, which solves for implied sales growth embedded in a stock price (VE Sales Growth), allows us to understand the embedded Sales Growth, EBITDA Margins, and Asset Turnovers a company has to deliver in the future to justify its current trading price. In theory, and in normal circumstances, if the imbedded future performance is very conservative relative to the company’s historical performance, the stock is regarded as undervalued. An undervalued company is more likely to outperform those companies with high expectations relative to what they have delivered historically. The tables below display the implied future sales growth of these companies assuming their EBITDA margins and Asset turnovers stay at their 5-year median levels.

Conclusion:
Both the percent to target charts and VE analysis show that large caps look more attractive than small cap stocks. The large cap stocks on the list have lower expectations for implied sales growth and the overall universe is currently undervalued. 

This data is a sample of our Market Review.  Register to view Complete PDF... IT's Fast and FREE

If you are a registered user, click here to access complete PDF of our Market Review

There are many ways professional equity investors use to narrow their list of investment constituents; by size, value, growth, sales growth, earnings growth, etc. When ValueExpectations.com looks for investment opportunities or to avoid potential torpedoes, we start with a focus on accessing Valuation, Corporate Performance (Economic Margin), and Management Quality of companies. These variables have proven very successful in finding winners and avoiding losers in different market caps, different styles, and different economic sectors, helping professional investors make sound stock selections in the past 13 years. These and many other proprietary variables can be screened on Applied Finance Group’s (AFG’s) institutional product www.AFGView.com.

Enjoying an accomplished methodology and process of selecting stocks doesn’t prevent us from learning how other people are identifying their fishing pool. We recently came across SA Editor Eli Hoffman's recommended list of stocks based on a set of variables that , he believes benefit both growth and value investors as these companies contain characteristics both investors will find attractive. These stocks were identified by what the author calls “a powerful screen and helps find strong companies at great values”.

Eli Hoffman's screen includes the following criteria:

• Only companies identified as Buys by Zack’s
• Companies with the highest 5 year historical earnings growth rates (top 20% all Zack’s Buy Rec.)
• Lowest P/E ratio (bottom 20% all Zack’s Buy Rec.)
• Trading over $5 a share
• 10 day avg. share volume of 50,000 shares or more

As the AFG methodology has also proven effective in identifying attractive stocks regardless of their Growth or Value characteristics, we thought it would be interesting to check the valuation attractiveness of Mr Hoffman’s stocks via AFG’s Value Expectation application. AFG’s Value Expectation allows us to understand the imbedded Sales Growth, EBITDA Margins, and Asset Turnovers a company has to deliver in the future to justify its current trading price. In theory and in normal circumstances, if the imbedded future performance is very conservative relative to the company’s historical performance, the stock is regarded as undervalued. The following table displays the implied future sales growth of Mr Hoffman’s companies assuming their EBITDA margins and Asset turnovers stay at the 5 year median levels.

Companies recommended by Mr Hoffman appear to have pessimistic future sales growth implied by their current stock prices, when compared to their historical sales growth, and appear to be undervalued from AFG’s valuation perspective. Before making a wise investment decision, however, we also need to understand a company’s corporate performance (Economic Margin), management quality, competitive advantages and valuation attractiveness relative to its industry and sector peers. AFG’s institutional product helps investors to gain considerable insight regarding those aspects through its proprietary framework and we will provide a detailed tutorial of this process next week. 

Register to view our Special Studies and Market Reivews... its FAST and FREE!!

When measuring the implied sales growth expectations priced-in to the eight biggest market cap companies in the Russell 2000 and the S&P 500, the larger cap S&P companies have lower expectations priced-in than the Russell 2000 companies. The median sales growth expectations, for the Russell 2000 is 11.76% compared to the 0.74% median priced-in to the S&P 500 companies. 

Given the bigger presence and management quality of these eight companies in the S&P 500,  we see them as a better investment oportunity based on the low expectations the market has placed into their current stock prices.

Top 8 Market Cap Companies and Sales Growth Expectations

Russell 2000

S&P 500