"Markets are constantly in a state of uncertainty and flux and money is made by discounting the obvious and betting on the unexpected."-- George Soros (b.1930).
Born at the beginning of the Great Depression of the 1930s, George Soros became a billionaire investor by "...discounting the obvious and betting on the unexpected".
Right now "the obvious" appears to be the bigger, safer, dividend-paying stocks like Intel (NASDAQ:INTC), Kraft (KFT), Caterpillar (NYSE:CAT) and Microsoft (NASDAQ:MSFT), which started 2012 on a tear.
In fact the entire stock market, including the "risk on" stocks involved in the Basic Materials and Energy sectors have had a good beginning to the new year.
The first two trading days of January saw upside volume and a bias for buying. On Friday stocks began to slump despite a government report that the unemployment rate dropped in December to the lowest level in nearly three years.
Concerns about the European debt crisis continued to be the media-based excuse for the market's malaise. Italy's borrowing costs spiked to dangerously high levels and the euro fell to a 16-month low against the dollar.
U.S. bank stocks fell on concerns that the debt crisis will spread through the financial industry (as if that concern is something new and ominous?). The Financial Select Sector SPDR (NYSEARCA:XLF) is still at around $13.40, well above its 52-week low of $10.95.
Bank of America (NYSE:BAC) shares were down over 2% near $6.18, again well above its 52-week low of $4.92. JPMorgan Chase (NYSE:JPM), which reports earnings next week, ended the day at $35.36. It has rallied nicely off its 52-week low of $27.85.
January's First 5 Days: Is It Really An "Early Warning System"?
Yes, it is a fact of history that in the last 38 of the "up in the first 5 days of January" years, the first 5 days were followed by full-year gains 33 times for an impressive 87% accuracy ratio and a 14% average gain in all 38 years (Stock Traders Almanac, 2012).
According to the Stock Traders Almanac, the five exceptions included the year of 1994 when the market was flat, and four were impacted by wars and bad news.
So its a little premature and a little naive to try to forecast where the stock market is going from here. Remember the humorous wisdom of one of my all-time favorite Major League Baseball players, Yogi Berra, who wryly reminded us that, "Prediction is very hard, especially about the future”.
Speaking of predictions, if you're into putting much credence into rational market forecasting you may want to look at the 10 Predictions for 2012 by Bob Doll, the Chief Equity Strategist at Blackrock. They're actually quite interesting and useful.
Which Low-Priced, High-Potential Stocks Look Attractive Now?
Let me start by saying this is in no way a complete list of such stocks. It's remarkable to me how many of these kind of stocks are currently available.
The stocks I'm mentioning in this article are an example of the kind of potentially rewarding companies that are currently trading at relatively low prices based on certain metrics I'm using myself in my own investment decisions.
I want stocks with a business model and product that has a high probability of creating exceptional "net operating profits" and lots of "levered free cash flow". At the same time I want them to be small enough and undervalued enough that bigger companies (or companies somewhat larger) may want to acquire them or merge.
Then I screen for factors like unfairly low P/E ratios and manageable debt (or even better, no debt at all). Add to the criteria a management team with a successful track record and the fact that the company is part of a sector that is yet to be, as George Soros called it "obvious", and we have a chance for "...betting on the unexpected."
Take a company like Seabridge Gold (NYSE:SA) which has no debt that I'm aware of. Seabridge has a resource base of gold, copper and silver that, according to its website "... is one of the world’s largest".
Its principal projects are all located in Canada. Its stated objective is "... to grow resource and reserve ownership per share" and its risk-reducing strategy: "...acquire North American deposits; expand them through exploration; move them to reserves through engineering; and sell or joint venture them to established producers for mine construction and operation."
Another similar company with no debt and over $213 million in cash is Keegan Resources (KGN). KGN is a company that engages in the acquisition and exploration of mineral resources in west Ghana, Africa. The company primarily explores for gold ores. It principally owns interests in the Esaase gold property and the Asumura gold property located in south west Ghana.
The company was formerly known as Quicksilver Ventures Inc. and changed its name to Keegan Resources Inc. in August 2004. Keegan Resources Inc. was incorporated in 1999 and is based in Vancouver, Canada.
Its Esaase project is a "shovel ready" asset that is expected to contribute 260,000 ounces of gold production to a potential acquirer's portfolio in a couple of years, as you can read on the company's web site.
Yes, this is a company that is more speculative to own because KGN won't be in production until 2014. If you believe as I do that gold prices are headed mostly higher in the next two years then KGN is an investment that isn't obvious to most.
Right now, with the price around $4-per-share, we are buying the gold at Esaase mine (proved reserves are around 2.9 million ounces out of a resource of 5.2 million ounces) for under $24 per ounce (based on subtracting the cash from a market value and dividing it by the number of gold ounces).
Industry analysts tell me that when KGN begins production its gold reserves should trade at around $150 per ounce. That happens to be the average price per ounce that the market pays for gold producers today (and why gold royalty companies like Royal Gold (NASDAQ:RGLD) and Franco Nevada (NYSE:FNV) make so much money when they buy at that price and then sell at the spot price).
The analysts that study gold producing projects in Western Africa and have visited KGN seem to be convinced (based on my research) that Keegan will be a takeover target well before production begins in 2014.
Companies like IAMGOLD (NYSE:IAG) and Yamana Gold (NYSE:AUY) are likely acquirers, and IAG is in a favorable position to acquire the company since it has experience in Ghana and is sitting on more than $1 billion in cash.
By the way, Barrick Gold (NYSE:ABX), Goldcorp (NYSE:GG) and Newmont Mining (NYSE:NEM) are big enough to buy IAG and AUY. Again, IAG looks like the better of the two, with no debt, plenty of levered free cash flow, and a forward P/E ratio of below 12.
More Low-Priced, High-Potential Stocks
Other low-priced, high-potential stocks include Silver Standard Resources (NASDAQ:SSRI), with more debt than I like to see but good properties, experienced management and a forward P/E of less than 14. Read its website to see more relevant details.
The same could be said about Cour d'Alene Mines (NYSE:CDE), which is looking very inexpensive around $25-per-share, less than 8 times forward earnings. Its silver and gold mining properties are located primarily in South America, Mexico, the United States, and Australia.
Like all the companies mentioned in this article, I really encourage you to familiarize yourself with the web site for CDE, which claims that it "...is the largest U.S.-based primary silver producer and a growing gold producer with projected 2011 production of 19.5 million ounces of silver and 220,000 ounces of gold".
While we're in the "silver patch" I'd include Silver Wheaton (NYSE:SLW) to the list of relatively low-priced, high-potential companies. Take a careful look at its key financial statistics and notice that it has lots of cash, relatively little debt, and is selling around 12 times projected forward earnings.
Its business model makes it #1 on my list of silver-oriented companies, and it does what it does without having to own or operate any mines. It wouldn't surprise me at all that within 2 years SLW shares will be twice their current price.
Long-time readers also know I like Advantage Oil & Gas Ltd.(NYSE:AAV) which engages in the acquisition, exploration, development, and production of oil and gas in the provinces of Alberta and Saskatchewan, Canada.
It primarily focuses on exploiting and developing the Glacier property covering approximately 77.75 net sections of land located in Alberta. The company produces and sells crude oil, natural gas liquids, and natural gas primarily through marketing companies. It's small enough and priced low enough to be an attractive takeover target.
Again, these are just a few of the promising companies that are currently "on sale". If you've read some of my articles the last few months you know of other good names to add to the list. Do your own careful due diligence, understand the risk factors, and consider a "mental" stop-loss to protect your "downside".
Keep in mind that low-priced stocks have much more risk inherently, but their upside potential is usually commensurate. Spread your speculative investment money among a handful of the ones you believe are the best, and you're more likely to eventually be holding a big "winner"...while you spread your risk around too.
Keep in mind that the Financial sector may continue to see an ongoing correction until the euro-drama script is fully played out and resolved. This sector is certainly a George Soros-like area to "discount the obvious" while "betting on the unexpected".
Don't Be Resistant To "Hedging Your Bets"
You can also do like Soros does and "hedge" your bets by using options to sell puts, buy puts and sell calls. Get advise on hedge strategies that use derivatives like options.
There are also ETFs that can be used as hedges. For precious metals there's the PowerShares DB Gold Double Short ETN (NYSEARCA:DZZ) for example. You can phone them at 1-877-369-4617 regarding any questions you may have.
For silver investors who want to hedge there's the ProShares UltraShort Silver ETF (NYSEARCA:ZSL). Give them a phone call at 1-866-776-5125 to discuss your objectives and to get clarification as to what these hedging ETFs and ETNs are made of.
If you own a good amount of smaller cap stocks and want a general hedge, you may consider shorting the Russell 2000 index by using an ETF like the ProShares Short Russell 2000 (NYSEARCA:RWM). To seek info about RWM, the phone number is also 1-866-776-5125.
Consider sector "short" ETFs like the ProShares Short Financials ETF (NYSEARCA:SEF), which seeks daily investment results, before fees and expenses, which correspond to the inverse (opposite) of the daily performance of the Dow Jones U.S. Financials Index.
If you're really a full-blown bear or a "bear fund" enthusiast, you may be interested in what some call "The 10 Best Funds for Bear Markets". If nothing else, it'll show you the many ways you can "hedge your bets" while "shooting for the moon".