Eight Value Stock Picks

On October 29, The Wall Street Transcript interviewed Integrity Asset Management Principals Daniel G. Bandi, Chief Investment Officer, Value Equities; Daniel J. DeMonica, Senior Portfolio Manager; and Adam I. Friedman, Senior Portfolio Manager, on investing in value stocks. Key excerpts, including their stock picks, follow:

TWST: Tell about us some of the stocks in your portfolios that you feel are representative of your investment approach.

Mr. Friedman: I think AnnTaylor (ANN) is a classic example. It is a very inexpensive stock and there are numerous catalysts to drive the shares higher. Moreover, we felt that with the Fed easing, we would be entering a more positive investment environment for retailers. The catalysts to drive the shares higher are better merchandising at Loft, upgrading of systems, cost cutting, share buybacks and launch of a beauty line at AnnTaylor Stores for the holiday season.

Mr. DeMonica: Within telecom we like Cincinnati Bell (CBB). The stock is statistically cheap, trading with a free cash flow yield of about 12% on a normalized basis. Some of the catalysts we see are continued margin improvement on the wireless side as well as expanding their data center business, which has good returns. It's also a growth engine that diversifies them farther away from the wireline telecom business, which is facing some secular issues. We think that within the next six to 12 months, we could see share repurchases or a dividend announcement or both as they deleverage their balance sheet down to under 4 times debt to EBITDA and can start to return cash to shareholders. CBB is a great example of where we see a very good valuation as well as some short-term catalysts for the stock to move higher.

Mr. Friedman: Another retailer we favor that we bought in our mid-cap and large cap portfolios in the late summer selloff was Macy's (M). What we saw at Macy's once again was a cheap valuation, 10 times next year's earnings, 0.55 times revenue, and it looked attractive in our valuation models. We saw the following catalysts — an accommodative Fed, a home division improving with the addition of Martha Stewart products and the converted May stores starting to turn around. A few months ago the stock was $45 due to private equity speculation and now we are buying the stock just under $30; we still believe there is a possibility that M could be acquired at substantially higher prices.

Mr. Bandi: Walter Industries (WLT) is another one that we own, and they are a combination coal mining company and home building company. What we liked about Walter initially was that the management really works to enhance shareholder value. Walter used to also own Mueller Water (MWA). We're interested in Walter because the stock's trading at about 5 times cash flow and it was even lower than that when we bought it. When they announced that they were going to spin off MWA, it seemed like management had committed to enhancing shareholder value and that got us excited about the stock. Now that they have spun off MWA, the stock has gotten a lot more attention from investors. Now you've got two pieces of business, which management is committed at some point to separating. You have the homebuilding business. You hear a lot of bad news about homebuilders, but they have an interesting model in that they're site builders, not like a Lennar or somebody that is going out and buying land and then putting up houses. If you're buying a house from Walter, you've already bought the land yourself and you've prepped it to have a house put on it. Essentially you go to Walter and buy the house from them and they come out and put it on your lot. As a homeowner, you've already put a lot of money upfront. In essence a lot of the upfront money that a homebuilder has to put in and where they're losing money, that's spent by the homeowner themselves in Walter's model. That business has actually been doing well for them, I mean particularly relative to other homebuilders, they're doing great. There is also a financing unit that goes along with homebuilding side and that has been doing okay. Their last business is their coal subsidiary and that business is solid. They do metallurgical coal, which is used in steel production around the world. Met coal pricing has been increasing nicely across the world, and so we see the increase in pricing as being a catalyst for the stock and also, looking farther down the road, they will continue to break this company apart, and may ultimately end up just selling off all the pieces to different people. Given the valuation, the trends in met coal pricing, the stability in their housing group and management's commitment to adding value, this should be a winner for us.

TWST: You haven't mentioned any healthcare companies. Do you have anything there that you can tell us about?

Mr. DeMonica: Within health care, one area we've been focusing on across the board is the life science research companies — companies that manufacture the machines and the consumables used in scientific research labs. The group has had a nice run and we have owned them across the board — Varian Medical (VAR) namely within small cap, and Mettler-Toledo (MTD) and PerkinElmer (PKI) within our mid-cap portfolios. They are benefiting from worldwide growth in setting up labs in China and India in particular and don't have the reimbursement risks that a lot of the domestic healthcare companies have. That's one trend in health care.

Comments

[sanserve]

Yard Sale!

Investment Grade Value Stocks At Ten Year Lows

There has never been a correction that has not proven to be an investment opportunity. While everything is down in price, there is actually less to worry about than when prices are historically high. More money has been lost by people who bought into last year's markets than by those who will buy into this one, at this stage of the correction. When the going gets tough, the tough go shopping.

Every correction is different, the result of various economic and/or political circumstances that create the need for adjustments in the financial markets. This correction is worse than most that I've experienced, but the doom and gloom scenarios many have been pushing are unlikely to come to fruition. Once the media elects a new president, they'll just have to start reporting better news: 96% of all mortgages are current sounds a whole lot better than 20% of all sub-prime mortgages are in trouble.

Some fundamentals in many excellent companies have eroded significantly (due in part to accounting rules that are being changed), but for the most part, interest payments are being made and few dividends have been cut. Bargain prices abound in both the equity and fixed income markets and interest rates are historically low.

A cocktail of credit market laxatives is working its way into a constipated world economy. Relief is on the way. Today's prices may well be looked at as the lowest of the next ten years! Here's a list of things to think about or to do while Investment Grade value Stock prices are at ten-year lows:

Don't beat yourself up by looking at your account market value. You should expect it to be down significantly because all security prices have fallen. Look for ways to add to your portfolios---that's what the smart guys are doing.

Keep in mind that someone is buying the individual shares that the others are selling. The buyers will hold on until they can turn a profit, and the cash on the sidelines will eventually find its way back into the markets as prices rise.

There are no crystal balls, and no place for hindsight in an investment strategy. Buying too soon, in the right portfolio percentage, is nearly as important to long-term investment success as selling too soon is during rallies.

Take a look at the future. Nope, you can't tell when the rally will come or how long it will last. If you are buying quality securities now, as you certainly should be, you will be able to love the rally even more than you did the last time--- as you take yet another round of profits.

As, or if, the correction continues, buy more slowly as opposed to more quickly, and establish new positions incompletely so that you can add to them safely later. There's more to "Shop at The Gap" than meets the eye, and you may run out of cash well before the new rally begins.

Cash flow is king, so take smaller profits sooner than usual as long as there are abundant buying opportunities. Today, nearly eighty percent of all Investment Grade Value Stocks are down more than 15% from their 52-week highs.

In looking at your income securities, cash flow is the primary concern; as long as it continues unabated, the change in market value is merely a perceptual/emotional issue. A loosening of the credit markets should move CEF prices back into normal ranges.

Note that Working Capital keeps growing in spite of falling prices. Examine your holdings for opportunities to average down on cost per share or to increase your yield on fixed income securities.

Identify new buying opportunities using a consistent set of rules, rally or correction. That way you will always know which of the two you are dealing with in spite of what the Wall Street propaganda mill spits out. Focus on Investment Grade Value Stocks; it's easier, generally less risky, and better for your peace of mind.

Stop examining your portfolio's performance in market value terms--- it leads to fearful, often frantic, decision-making. Keep your asset allocation and investment objectives clearly in focus and try to think in terms of market and economic cycles as opposed to calendar quarters and years. The Working Capital Model provides a calmer way of dealing with portfolio dislocations during severe corrections.

So long as everything is down, there is really less to worry about. This is the result of panic selling by ETF and open-end mutual fund owners and the beginnings of year-end window dressing by fund managers.

Corrections, regardless of cause, will vary in depth and duration, but both characteristics are only clearly visible in rear view mirrors. The short and deep ones are most lovable; the long and slow ones are more difficult to deal with. If you over-think the environment or over-cook the research, you'll miss the after-party.

Unlike many things in life, Stock Market realities need to be dealt with quickly, decisively, and with zero hindsight. Because amid all the uncertainty, there is one indisputable fact that reads equally well in either market direction: there has never been a correction/rally that has not succumbed to the next rally/correction.

Get out there and buy low for a change.


Steve Selengut
www.kiawahgolfinvestme.../
www.valuestockindex.co...
Professional Portfolio Management since 1979
Author of: "The Brainwashing of the American Investor: The Book that Wall Street Does Not Want YOU to Read", and "A Millionaire's Secret Investment Strategy"