24 'Expensive' Stocks That Just Might Go Higher

In a bull market, valuation plays second fiddle to growth and momentum. Even in a bear market, if one can identify companies that have the capacity to stand up to the headwinds, one can benefit from "crowding in". Simply put, the investors that like growth have very few options, so they all focus on the same few names, driving them potentially to very rich valuations.

I believe that we are in a bear market, though, as I have described, I expect the investment climate to be good this quarter. My views are based less on any change in the economic outlook (still lousy) but more on valuation for the most part. Simply stated, stocks overreacted during Q1, with too many stocks of good companies pounded beyond merit while the bad ones were perhaps pounded even more. I have written about small-caps generally being attractive (back to same relative price now after getting worse subsequent to my article), but I am a bit nervous about the valuations of some of the ones I have favored and have sold or trimmed many of them (America's CarMart (CRMT), Dorman Products (DORM), Men's Wearhouse (MW), Met-Pro (MPR), Shoe Carnival (SCVL), and Thor (THO)). I have written about several of these companies, all of which were deep value plays. I was definitely early on most, but, fortunately, I used the lower prices to build larger positions. I credit the strong YTD performance of my Top 20 Model Portfolio (up 9.9%) to the massive recoveries in these small-cap names (primarily consumer discretionary).

So, what now? Many of the deep value names have been snapped up. While I believe that we are nearing the top of the range and will be careful about deploying capital immediately, I am not expecting that the next pullback will create the kind of values that we saw last month at the lows. I continue to believe that investors should and probably will trim companies with inferior capital structures. We are too far from the next economic upturn to place bets on those companies for now (I expect a very long period of weak growth to follow the negative growth rather than a "v-shaped" economic recovery). One area that could get some focus, though, are the few high-growth companies, but ones with strong balance sheets.

To try to identify potential candidates, I screened for the following attributes:

• Market Cap > $100mm
• Price vs S&P 500 (13 weeks) > 0 (favorable price momentum)
• Total Debt to Cap < 20% & Net Debt to Cap < 0 (strong balance sheet)
• 3 yr historical EPS growth >20 (Company has grown)
• 3 yr historical RPS growth >10 (Company has grown top-line)
• FY2 EPS / FY1 EPS > 15% (Company is expected to grow)
• PE > 18 (Market views it as a growth stock)

That last attribute may confuse readers, but I am not looking for a company that is totally underappreciated by the market. If you can find those, they are obviously better! In this case, I am trying to identify companies that have grown historically and, for whatever reason, are expected to continue to grow. My thesis is that the PE for these stocks MAY be too low. Even if not, the growth itself could help the stock hold up better in a weak economy. Here is what StockVal kicked out (click to enlarge):

I intend to check back on this screen in the coming weeks, as no doubt it will change. I like that several different economic sectors are represented. Not surprisingly, given the recent rally, the group is overbought (last column) for the most part, though a few names aren't. The PE ratios are generally high at 27-30 typically. They tend to be lower than they have been over the past 5 years. Generally, I would like to buy stocks with rising estimates. The data I share represents not this year's estimates but the following year's. In most cases, the estimates are probably falling for this year, which is OK with me. Note also that the typical stock is still 35% below its 52-week high. Given how weak Healthcare has been lately, some of these names could actually be timely now. Generally, I would look to buy stocks that have a Price Momentum Index below 1 (9 of the 24 are there now).

So, this is just a first step, not a buy recommendation (just to be clear). Some of these stocks will not meet expectations and will most likely get crushed due to the high valuation relative to the market. After all, who wants to pay Dom Perignon prices for non-vintage champagne? If you want proof, I can send you the 15 stocks (one of which I own) that meet all the criteria except that they have been underperforming over the past 13 weeks. I bought the one after it got slammed, and, in fact, this might be an even better strategy (buying long-term growth companies that hit the speed-bump and reset the bar). With that said, though, at least conceptually, buying winners can work, even in a bear market.

This rally has been massive and has been driven by a reversion to the mean for some deeply oversold stocks. If I am correct that this has been a valuation rally and not a reflection of better times ahead generally, then investors should want to own companies that can better weather the storm. Companies that can grow (as reflected at least by high historical growth and high expectations as evidenced by PE multiples above the market) or companies with strong balance sheets both fit the bill. The screen above hopefully incorporates both of these attributes.

Disclosure: No position in any of these stocks

Comments

[WACG:]

I always have to laugh when I hear, at the end of an analysis and stock recommendation speech, that the analyst has "no position" in anything he/she has talked about. I would prefer to hear where they have actually put their own money. Why bother me or others with what you do not think is fit to own (or be short of)!?

Apr 05 09:43 AM

[basehitz:]

"WACG", ditto your sentiment. Seems every time I pick up a post from this guy I leave scratching my head. As you said "why bother"?

Apr 05 11:01 AM

[Alan Brochs...:]

Give me a break. I shared a forward looking analyis, saying that this is a concept (and potential list) from which I intend to buy. I understand your sentiment about "reporters" rather than "doers", but I think that you are wrong to judge me on this one posting. Go back and check out my DORM article recently - had a position (smaller now since Friday) .seekingalpha.com/artic... ISRG - had a position. Last week, CRR (plus two in my model portfolios) seekingalpha.com/artic.... Before that, MPR: seekingalpha.com/artic... I don't often have short positions (prefer to just use ETFs), but I rarely suggest "shorting" (sell or don't buy).

As far as preferring to hear where I have "actually put my own money", I publish my holdings daily on my corporate website. Do you?


On Apr 05 09:43 AM WACG wrote:

> I always have to laugh when I hear, at the end of an analysis and
> stock recommendation speech, that the analyst has "no position" in
> anything he/she has talked about. I would prefer to hear where they
> have actually put their own money. Why bother me or others with what
> you do not think is fit to own (or be short of)!?

Apr 05 11:11 AM

[SJD:]

The author has presented investment ideas and opportunities based upon a thesis. Further research based upon your own risk tolerance or affinities towards an industry or chart pattern or whatever is still required. What do you want him to do, do your trading for you?

At some point good ideas or concepts (the purpose of the SA forum) will cease to be published due to all of the snipers out there with no ideas of their own to add.

Apr 05 11:34 AM

[NetGeezer?:]

May just be me, but I don't get a clear reason for why you suggest this screen. Is the reasoning just what the title suggests; that these will likely go higher? Also saying that since the bargains are already gone, these would be next best thing?

And when are you suggesting buying in? Now or wait until after the next expected downturn and pick them up at the bottom? Just want to be sure I got you. Thanks.

Apr 05 06:58 PM

[Alan Brochs...:]

Thanks for your comment. I believe that some of these "winners" will prove to be good investments in the coming quarters. I would be looking to buy them vs cash later (pullback), but they might make sense now vs. companies with weak balance sheets that have snapped back too sharply. My big theme this year has been to avoid troubled balance sheets, and these companies are potentially the converse. Big picture, in a bear market, companies that are growing can perform exceptionally well.


On Apr 05 06:58 PM NetGeezer? wrote:

> May just be me, but I don't get a clear reason for why you suggest
> this screen. Is the reasoning just what the title suggests; that
> these will likely go higher? Also saying that since the bargains
> are already gone, these would be next best thing?
>
> And when are you suggesting buying in? Now or wait until after the
> next expected downturn and pick them up at the bottom? Just want
> to be sure I got you. Thanks.

Apr 05 09:13 PM

[DesertRat87:]

I've owned both Atheros (ATHR) and Volterra (VLTR) off of a financial strong company growth screen that I use since March 2nd. However, my weekly review has me selling Volterra on Monday due to its growth rating dropping.

Atheros and Chipotle are both on my current screen. It good seeing that a related approach does produce at least some overlap in results.

Apr 06 12:40 AM

[Alan Brochs...:]

What system do you use for your screen? Is it a canned screen or one that you created?


On Apr 06 12:40 AM DesertRat87 wrote:

> I've owned both Atheros (seekingalpha.com/symbo...) and
> Volterra (seekingalpha.com/symbo...) off of a financial
> strong company growth screen that I use since March 2nd. However,
> my weekly review has me selling Volterra on Monday due to its growth
> rating dropping.
>
> Atheros and Chipotle are both on my current screen. It good seeing
> that a related approach does produce at least some overlap in results.

Apr 06 09:14 AM

[Nanacat:]

Thank you, Alan. A great analysis. And some to add to my watch lists.

Apr 06 01:37 PM

[DesertRat87:]

The screener I use is the Morningstar Premium Screener and I make heavy use of the proprietary features such as ratings, grades, and fair value as I've worked through the definitions and generally understand and agree with what they represent.

The screen I referenced is one I developed and title 'Value Priced Growth'. The theme is "Buy financially solid companies with solid growth characteristics at a discount to fair value."

The Growth criteria is represented by the Growth Grade >= B- since I'm looking for generic strong growth.

I then add in a PEG <= 2 to not overpay for the growth.

Financial strength is represented by Financial Health Grade >= B-.

Since I want to buy at a discount I add the Morningstar Rating >= Four Stars.

Since I'm (a) impatient and (b) would like to avoid a "falling knife" the tests (1 Mo return % Rank Industry <= 3 Mo return % Rank Industry) and (1 Mo return % Rank <= 33) are added for relative strength selection.

From lessons learned I also add liquidity tests (Market Capitalization (mil $) >= 200) and (Average Daily Trading Volume >= 50000).

When I need to replace a portfolio company I sort by Price/Fair Value during odd numbered months and take the lowest ratio and for even numbered months I sort by 1Mo Return % Rank and take the lowest (highest performing). Any current holdings are skipped over.


On Apr 06 09:14 AM Alan Brochstein wrote:

> What system do you use for your screen? Is it a canned screen or
> one that you created?

Apr 06 04:24 PM

[Alan Brochs...:]

Thanks for sharing...


On Apr 06 04:24 PM DesertRat87 wrote:

> The screener I use is the Morningstar Premium Screener and I make
> heavy use of the proprietary features such as ratings, grades, and
> fair value as I've worked through the definitions and generally understand
> and agree with what they represent.
>
> The screen I referenced is one I developed and title 'Value Priced
> Growth'. The theme is "Buy financially solid companies with solid
> growth characteristics at a discount to fair value."
>
> The Growth criteria is represented by the Growth Grade >= B- since
> I'm looking for generic strong growth.
>
> I then add in a PEG <= 2 to not overpay for the growth.
>
> Financial strength is represented by Financial Health Grade >= B-.
>
>
> Since I want to buy at a discount I add the Morningstar Rating >=
> Four Stars.
>
> Since I'm (a) impatient and (b) would like to avoid a "falling knife"
> the tests (1 Mo return % Rank Industry <= 3 Mo return % Rank Industry)
> and (1 Mo return % Rank <= 33) are added for relative strength selection.
>
>
> From lessons learned I also add liquidity tests (Market Capitalization
> (mil $) >= 200) and (Average Daily Trading Volume >= 50000).
>
> When I need to replace a portfolio company I sort by Price/Fair Value
> during odd numbered months and take the lowest ratio and for even
> numbered months I sort by 1Mo Return % Rank and take the lowest (highest
> performing). Any current holdings are skipped over.

Apr 06 05:19 PM