This Day On The Street
Continue to site right-arrow
This account is pending registration confirmation. Please click on the link within the confirmation email previously sent you to complete registration.
Need a new registration confirmation email? Click here

Three Underperformers That Don't Add Up

This article originally appeared Jan. 27, 2014, on Real Money. To read more content like this, + see inside Jim Cramer's multi-million dollar portfolio for FREE -- Click Here NOW.

I have been asked several times if I think this is a great buying opportunity, and the only thing I can do is wonder what everyone is thinking. So far, this is just a bump in the market advance. It may turn into something more serious, but it has not yet created any excess of inventory for value investors. The stuff that is down this year is the same stuff that has been going down for some time now, like miners and energy. Shipping stocks have been selling off a little but most of these have had huge runs and it's not yet time to think about initiating or adding to positions in most of the group.

It is time to think about playing defense in your portfolio. I have no idea if the selling begins again and takes us to substantially lower levels. I do know that if it does, the last thing you want is to be caught holding companies that are richly valued yet have poor fundamentals and prospects. Even if the market shakes off the emerging-market problems and continues to rally it is likely that these stocks underperform substantially, so there really doesn't seem to be many reasons to hold them.

CarMax (KMX - Get Report) is a good example of such a stock. The auto dealer is just not seeing anywhere near the growth to justify the current 20 price-to-earnings ratio and price-to-book-value ratio of more than 3. The company is seeing single digit earnings growth this year and this will likely be the case next year as well. The Enterprise Value-to-EBITDA ratio is a whopping 17, so it is tough to make a case for the stock being reasonably priced . The prospects do not look all that promising as the Piotroski F-score is 2 on a scale of 0 to 9, indicating the operating and financial conditions are getting worse, not better. There is no strong reason to own or hold the stock now.

Another stock that doesn't measure up and should be avoided is iRobot (IRBT - Get Report). This company has a great story with robot appliances and robots for military and home-defense markets. I love a good story, but the company just doesn't measure up when you look at the numbers. Earnings are down this year and the company will probably see single-digit growth for the next three to five years. The demand is not there yet. There is nothing in the company's fundamentals that make me want to own the shares. The stock sells at 57x earnings and more than 3x book value and an EV/EBITDA ratio of 24. The F-score is just 3, so conditions don't look they will improve any time soon.

Toll Brothers (TOL - Get Report) has struggled all year and the stock has not been the top performer it was in2012. It doesn't look like conditions will improve for the company any time soon and it is richly valued right now. The housing market may be recovering but it only takes a bump or two in interest rates to slow things down in this industry. Anecdotally, I can tell you that Central Florida seems to be over building anew already and I am hearing similar stories for the sunshine markets around the country. Turning back to the numbers, the stock trades at 1.8x book and 37x earnings with an EV/EBITDAS ratio of 34. The F-score is 3, so conditions may be getting worse, not better, for the luxury homebuilder. It is the class of the industry but there is currently no valid reason to own the shares.

I am not a market-timer by any stretch, but there are signs that the market may be overpriced. I do know that richly valued companies usually lead the market down in a selloff and that companies with low F-scores underperform the broader market. It makes sense to combine these two factors and look for stocks that have the potential to  harm our portfolios on the downside and offer little upside potential.

At the time of publication, Melvin had no positions in the stocks mentioned.

At the time of publication, Melvin was long XXX, although positions may change at any time.

Tim Melvin is a writer from Stevensville, Maryland, who spent 20 years a stockbroker, the last 15 as a Vice President of Investments with a regional firm in the Mid Atlantic area. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. Melvin appreciates your feedback; click here to send him an email.

Select the service that is right for you!

Action Alerts PLUS
Try it NOW

Portfolio Manager Jim Cramer and Director of Research Jack Mohr reveal their investment tactics while giving advanced notice before every trade.

Product Features:
  • $2.5+ million portfolio
  • Large-cap and dividend focus
  • Intraday trade alerts from Cramer
  • Weekly roundups
TheStreet Quant Ratings
Try it NOW
Only $49.95/yr

Access the tool that DOMINATES the Russell 2000 and the S&P 500.

Product Features:
  • Buy, hold, or sell recommendations for over 4,300 stocks
  • Unlimited research reports on your favorite stocks
  • A custom stock screener
  • Upgrade/downgrade alerts
Stocks Under $10
Try it NOW

David Peltier uncovers low dollar stocks with serious upside potential that are flying under Wall Street's radar.

Product Features:
  • Model portfolio
  • Stocks trading below $10
  • Intraday trade alerts
  • Weekly roundups
Dividend Stock Advisor
Try it NOW

David Peltier identifies the best of breed dividend stocks that will pay a reliable AND significant income stream.

Product Features:
  • Diversified model portfolio of dividend stocks
  • Alerts when market news affect the portfolio
  • Bi-weekly updates with exact steps to take - BUY, HOLD, SELL
Real Money Pro
Try it NOW

All of Real Money, plus 15 more of Wall Street's sharpest minds delivering actionable trading ideas, a comprehensive look at the market, and fundamental and technical analysis.

Product Features:
  • Real Money + Doug Kass Plus 15 more Wall Street Pros
  • Intraday commentary & news
  • Ultra-actionable trading ideas
Options Profits
Try it NOW

Our options trading pros provide daily market commentary and over 100 monthly option trading ideas and strategies to help you become a well-seasoned trader.

Product Features:
  • 100+ monthly options trading ideas
  • Actionable options commentary & news
  • Real-time trading community
  • Options TV


DOW 18,214.42 -10.15 -0.06%
S&P 500 2,110.74 -3.12 -0.15%
NASDAQ 4,987.89 +20.7530 0.42%

Our Tweets

Partners Compare Online Brokers

Top Rated Stocks Top Rated Funds Top Rated ETFs