We have been in the midst of a colossal sell-off of basic materials stocks based on unprecedented macroeconomic and geopolitical trepidations. The global predicament has been on a scale the world hasn't seen in a generation. 2008's so called Great Recession's only peer seems to be the Great Depression of the 1930s.
You would think that some fantastic buying opportunities have been created, and you would be right. All of the battered basic materials stocks in this article are down two to over ten fold since the start of the 2008 debacle. Nevertheless, we may have just seen the bottom based on the recent performance of these stocks.
The fact that these stocks have been beaten down to within an inch of their proverbial lives leads me to believe when the market recovers, they could easily double. Part of it is the math involved. If you buy a stock after it has lost 50% of its value and it recovers to its former level, you will essentially have a 100% gain or a double. As stated earlier, these stocks have lost vastly more than 50% over the last few years making a double that much more easily attained.
Moreover, it appears we may be at an inflection point. Often, this is precisely the time to pick up shares in out of favor stocks. The Dow has topped 13,000 and is trading at multi-year highs. Optimism that the Federal Reserve, the ECB and other global central banks may provide further stimulus to revive the global economy is high. I have chosen five out of favor stocks recently bouncing off multi-year lows yet vastly below multi-year highs to consider.
These are speculative contrarian investing ideas. A contrarian believes that certain crowd behavior among investors can lead to exploitable opportunities. Pervasive cynicism about a stock or sector can drive the price so low that it exaggerates the investment's perils and belittles its future prospects. Identifying and seizing on these opportunities is a well-known investing tactic utilized by many legendary investing experts.
These five basic materials stocks may present buying opportunities at current levels. The stocks covered in this article are trading on average 50% below their 52 week highs and have an average upside potential of 50% based on analysts' mean price targets. Furthermore, the stocks have recently bounced off multi-year lows yet trading vastly below multi-year highs. Furthermore, most of these stocks have solid EPS growth projections for next year.
In the following section, we will perform a review of the fundamental and technical state of each company to determine if this is the right time to start a position. The following table depicts summary statistics and Wednesday's performance for the stocks. The following charts are provided by Finviz.com.
Click to enlarge
Alcoa, Inc. (AA)
Alcoa is up 11% over the past month. The company is down over threefold from its 2008 high of $40. The company is trading 31% below its 52-week high and has 21% potential upside based on the analysts' consensus mean target price of $10.68 for the company. Alcoa was trading Wednesday for $8.84, flat for the day.
Fundamentally, Alcoa has several positives. The company has a forward P/E of 11.92. Alcoa is trading for 22 times free cash flow and approximately two thirds of book value. EPS is expected to rise by 155% next year. The company pays a dividend with a yield of 1.36%.
Technically, the stock has been in a short-term uptrend since mid-July. The stock just broke through resistance at the 50-day sma and is now trading 4% above it. The stock is a buy at this level.
AK Steel Holding Corporation (AKS)
AK Steel is up 17% in the past month. The company is down over tenfold from its 2008 high of $70. It is trading 43% below its 52-week high and has 14% upside based on the analysts' consensus mean target price of $6.69 for the company. AK Steel was trading Thursday for $5.86, up almost 1% for the day.
AK Steel has some fundamental positives. The company has a forward P/E of 9.16. AKS is expecting EPS to more than quadruple next year. The company trades for 10% of sales.
Technically, the stock has been in a short term uptrend since late July. The stock has broken through major resistance at the 50 day sma. It has continued higher and is now trading 7% above the 50 day sma. A trend reversal will be confirmed if the stock breaks above the July high of approximately $6.30. I like the stock here.
Alpha Natural Resources, Inc. (ANR)
ANR is up over 14% in the past month. The company is down over thirteen fold from its 2008 high of $100. It is trading 80% below its 52-week high and has 86% upside potential based on the analysts' consensus mean target price of $1,301 for the company. ANR was trading Thursday for $7.12, down almost 3% for the day.
Fundamentally, ANR has some positives. EPS for the next five years is expected to rise by 20%. ANR is trading for approximately one third of book value. Insider ownership is up 35% over the past six months and the company's sales are up 16% quarter over quarter. On the negative side, the company has a net profit margin of -36%; a negative ROE of -43.57% and EPS is dropping substantially quarter over quarter.
Technically, ANR seems to have found a short-term bottom at $7. Even so, the stock has shown little signs of being able to break the long-term trend. I am still taking a pass on ANR until a change in trend is confirmed. Although the risk reward ratio may be favorable at this point, I can't get behind ANR until I see some improvement in the fundamental and technical status.
Peabody Energy Corp. (BTU)
Peabody is up 17% in the past month. The company is down almost threefold from its 2008 high of $82. The company is trading 52% below its 52-week high and has 39% upside potential based on the analysts' consensus mean target price of $32.75 for the company. Peabody was trading Friday for $23.88, up slightly for the day.
Fundamentally, Peabody has several positives. The company has a forward P/E of 9.18. Peabody is trading for 9.93 times free cash flow and slightly over book value. EPS next year is expected to rise by 25%. The company pays a dividend with a yield of 1.42%.
Technically, the stock has made the first move on its way to changing the trend. The stock still has a ways to go prior to confirming a trend change. Nonetheless, I like the stock here. It broke through resistance at the 50-day sma and kept on going.
United States Steel Corp. (X)
US Steel is up 25% in the past month. The company is down almost sevenfold from its 2008 high of $180. The company is trading 30% below its 52-week high and has 33% potential upside based on the analysts' consensus mean target price of $30.07 for the company. US Steel was trading Wednesday for $22.77, up slightly for the day.
Fundamentally, US Steel has some positives. The company has a forward P/E of 8.28. US Steel is trading for 93% of book value. EPS next year is expected to rise by 77.42%. Insider ownership is up 25% over the past six months and the company pays a dividend of around 1%.
Technically, the stock has officially changed trend and is achieving a double bottom reversal pattern. The stock tested resistance at the $18 level twice over the past two months and soared higher than the peak of $22 between the two troughs at $18. This is extremely bullish. The stock is a strong buy here.
The Bottom Line
Bull markets are born on pessimism, grown on skepticism, mature on optimism and die on euphoria.
This little-known quote is credited to John Templeton. Sir John Templeton was a legendary investor who used a contrarian approach to investing. Templeton took contrarian investing to the extreme. Templeton stated contrarian investing wasn't simply investing against the grain but buying into companies hitting rock bottom or what he called "points of maximum pessimism." I would say these stocks definitely fit the bill.
In trading Wednesday, shares of the iShares Dow Jones U.S. Basic Materials Sector Index Fund ETF (IYM) quickly reacted to the Feds minutes Wednesday reversing trend and finishing higher. iShares Dow Jones U.S. Basic Materials Sector Index Fund shares are currently trading up about 1% on the day. The chart below shows the performance of IYM shares for Wednesday.
Chart Provided by CNBC.com.
China and India are growing by leaps and bounds even though they may have slowed somewhat. They continue to increase strategic reserve stockpiles of basic materials. Couple this with the possibility of a second half rebound for the U.S. and Europe spurred by Fed and ECB policy adjustments, and you have a recipe for a major rebound in these stocks.
Use this information as a starting point for your own due diligence and research methods before determining whether or not to buy or sell a security. You must determine if these investments are suitable for you. If you choose to start a position in any stock, I suggest layering in a quarter at a time to reduce risk and set a 5% trailing stop loss in order to minimize losses further if you wish.