Value investors search for opportunities to buy stocks that are trading below their fair values. These stocks may rise to their fair value in the near future, generating a profit for those shrewd enough to find them.
One tool for finding these undervalued names is the Graham equation, developed by the “godfather of value investing” Benjamin Graham.
The Graham Number is a measure of a stock’s maximum fair value, and it only requires two data points: current earnings per share and current book value per share. The Graham Number = Square Root of (22.5) x (TTM Earnings per Share) x (MRQ Book Value per Share). This equation assumes that a stock is overvalued if P/E is over 15 or P/BV is over 1.5.
Stocks trading at a significant discount to their Graham number may be undervalued.
We ran a screen on the healthcare sector for stocks that have been outperforming the market over the current quarter, with greater than 15% return. We screened these stocks for those trading at the most significant discounts to their Graham number.
Interactive Chart: Press Play to compare changes in analyst ratings over the last two years for the stocks mentioned below. Analyst ratings sourced from Zacks Investment Research.
We also created a price-weighted index of the stocks mentioned below, and monitored the performance of the list relative to the S&P 500 index over the last month. To access a complete analysis of this list's recent performance, click here.
Do you think these stocks should be trading higher? Use this list as a starting-off point for your own analysis.
List sorted by potential upside implied by Graham number.
1. Aetna Inc. (AET): Operates as a diversified health care benefits company in the United States. Market cap of $14.69B. The stock has gained 16.12% over the past quarter. TTM Diluted EPS at $4.70, MRQ Book Value Per Share at $29.06, Graham number at $55.44 (vs. current price at $40.04, implies a potential upside of 38.45%). Might be undervalued at current levels, with a PEG ratio at 0.78, and P/FCF ratio at 6.65. The stock has had a good month, gaining 10.55%.
2. Lifepoint Hospitals Inc. (LPNT): Operates general acute care hospitals in non-urban communities in the United States. Market cap of $1.89B. The stock has gained 29.17% over the past quarter. TTM Diluted EPS at $3.13, MRQ Book Value Per Share at $39.22, Graham number at $52.56 (vs. current price at $38.87, implies a potential upside of 35.21%). The stock is a short squeeze candidate, with a short float at 11.09% (equivalent to 8.75 days of average volume). The stock has gained 13.15% over the last year.
3. Teleflex Incorporated (TFX): Develops, manufactures, and supplies single-use medical devices used by hospitals and healthcare providers worldwide. Market cap of $2.48B. The stock has gained 22.80% over the past quarter. TTM Diluted EPS at $5.83, MRQ Book Value Per Share at $47.46, Graham number at $78.90 (vs. current price at $59.83, implies a potential upside of 31.88%). The stock has gained 12.93% over the last year.
4. Molina Healthcare Inc. (MOH): Provides Medicaid-related solutions to meet the health care needs of low-income families and individuals, as well as assists state agencies in their administration of the Medicaid program. Market cap of $988.03M. The stock has gained 29.07% over the past quarter. TTM Diluted EPS at $1.54, MRQ Book Value Per Share at $17.11, Graham number at $24.35 (vs. current price at $21.15, implies a potential upside of 15.12%). Might be undervalued at current levels, with a PEG ratio at 0.84, and P/FCF ratio at 4.04. The stock has had a couple of great days, gaining 5.31% over the last week.
*BVPS and EPS data sourced from Yahoo! Finance, all other data sourced from Finviz.