Another Screen for Safe, Cheap Stocks

After several weeks of exploring and experimenting with stock market ideas, I am back to focusing on the basics as the first half of the year comes to a close. Although I am constantly wandering around the corners of the markets, kicking over rocks and looking for ideas and methodologies that have the promise of profit, I always come back to my deep value roots.

On Thursday, I examined the old standby screen based on Walter Schloss' approach to the markets. Today I want to look at another old favorite screen that has served me very well over the years.

The screen is very simple and basic. I look for companies that trade below book value, pay a dividend, are currently profitable and have been able to grow sales and earnings for the past five years. This simple screen has provided some powerful ideas over the years, and I expect it will continue to do so.

The first thing I noticed was that the list has shrunk considerably since the first of the year. When I ran the screen in December 2011, about 80 names popped up as candidates. Today the list has fewer than 40 names. The feverish hunt for yield has driven many stocks higher in 2012, especially the larger-cap, more liquid dividend stocks. That's something of a warning sign in my eyes, and it makes me a little cautious about the overall direction of the market in the next few months.

The largest-cap name on the list is MetLife ( MET). The company has the same problems as other life insurance companies with a weak economy and low interest rates. In addition, MetLife has suffered from failing the stress test for bank holding companies and will not be able to raise its dividend or aggressively buy back shares in the near term. I expect to see it shed holding company status by the end of the year and get out from under FDIC restrictions. The life-insurance giant is seeing strong results in retirement plan products and its international sales efforts that should drive earnings for the foreseeable future. I have owned the stock since 2008 and missed my chances to sell higher. That's fine with me, as I expect the stock to eventually surpass the 2007 highs as the economy recovers and interest rates begin to rise.

Corning ( GLW) has sold off in recent weeks and now sells below tangible book value once again. I sold this stock back in 2012 but would be more than happy to buy the manufacturer of glass products for the technology and communications industry. Growing LED sales to the flat-screen TV industry and increased usage of Corning's Gorilla Glass in phones and tablet device should drive revenue and earnings growth for the company. The balance sheet is solid as a rock, with $3.7 billion of net cash available to weather the storm and make strategic acquisitions. Corning recently raised the dividend payout, and the stock now yields 2.4%.

Longtime favorite holding FLY Leasing ( FLY) is back on the buy list again. The aircraft leasing company continues to generate outstanding results. Right now, 108 of the 111 aircraft the company owns are on lease, and two more are under letters of intent. The average lease still has more than three years until expiration. Management has bought back equity and debt securities at a discount over the past five years and done an amazing job of managing the balance sheet. FLY shares trade at 70% of tangible book value, and the stock yields 6.45% at today's price.

The screen produces a small but solid list of stocks. Many of my favorite micro-cap bank holdings make the cut, including Essa Bancorp ( ESSA) and Heritage Financial Group ( HBOS). Much like the Schloss screen, this simple valuation approach does not uncover the world's most exciting and popular companies. It does find safe and cheap stocks with the potential for exciting profits. Long-term value investors should be running both of these screens at least once a month.
At the time of publication, Melvin was long MET, ESSA, HBOS and FLY, 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.