Rebound Stock-Picking With Book Value

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As the market plunged to new depths last November, it proved to be a great time to run screens to see which stocks were oversold in relation to their balance sheets and income statements. Many of the most deeply discounted names from that period had the most aggressive snapbacks when the market rallied into the new year. With the market in another tough phase in the first two months of 2009, it's time to revisit that approach.

One of the greatest tests of support for a stock is a company's tangible book value. For this screen, I went looking for stocks that now trade for no more than 1.2 times tangible book value. Can a stock fall below tangible book? Sure, but in time, they tend to rebound to at least the 1.0-1.2 times book value level.

Of course, book value will erode if a company is losing value, so I narrowed the list to only those companies that are expected to stay profitable in 2009. In theory, further profits should boost book value even higher. I also wanted to be sure that these stocks were liquid enough to garner strong institutional support when the market turns.

Right now, many hedge funds are going out of business, and second-tier research departments are shrinking, and these two groups have often been the pillars of support for less liquid stocks. So this list includes only stocks that trade at least 1.5 million shares per day.

As a final screening variable, I looked for companies with at least $150 million in net cash, so any upcoming debt payments can be handled without stress.

Trading Near Tangible Book Value Company Ticker avg. daily volume (K) Net Cash & Equiv. Market Cap. (US$) Tangible Book Value Tang. Price Book 2009 EPS "normal" EPS 2009 P/E "normal" P/E Foot Locker, Inc. FL 3,066 272 1,134 1,771 0.6 $0.59 $1.61 12.7 4.6 Tellabs, Inc. TLAB 5,404 376 1,492 2,118 0.7 $0.15 $0.44 25.2 8.6 Ensco International ESV 3,683 256 3,564 4,044 0.9 $7.17 $6.66 3.5 3.8 Molex MOLX 1,526 156 2,127 2,303 0.9 $0.46 $1.19 26.4 10.2 IAC/ InterActiveCorp IACI 2,122 1,895 2,113 2,130 1.0 $0.63 $1.80 23.8 8.3 Abercrombie & Fitch ANF 4,097 560 1,969 1,801 1.1 $1.84 $3.38 12.3 6.7 JDS Uniphase JDSU 5,132 297 638 558 1.1 $0.21 $0.50 13.3 5.6 Corning GLW 16,546 4,267 15,186 13,138 1.2 $0.63 $3.37 15.3 2.9 Sources: First call, Thomson Reuters, company reports

With the list in shape, I thought it would be helpful to see how these stocks trade in relation to their "normal" earnings strength. That means looking back to 2007, when earnings and margins were more in line with historical norms. Will we ever return to "normal?" Yes. A wide range of industries are purely cyclical, and their peaks and valleys look fairly predictable over a longer time horizon.

But stock selection remains vital, as the pair of retailers on the list tells us. Right now, people may hold off buying new footwear, and that is crimping sales for Foot Locker (FL). But shoes and sneakers wear out. They are not luxuries but necessities. So in time, sales and profits for Foot Locker should rebound. In advance of an eventual rebound, shares trade for just 0.6 times tangible book value and less than five times "normal" earnings.

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