By Matt Doiron
We like to look at price-to-earnings multiples as a quick gauge of a stock's value before taking on a more in-depth examination of the company. Sometimes, however, the reason why a stock trades at a low valuation relative to its trailing earnings is because there are fundamental problems at the company which threaten its ability to continue earning the same amount of money in the future, thus driving down the stock price as current holders buy out- and as short sellers, seeing an endangered stock, sell shares in anticipation of even lower share prices in the future. Therefore, seeing a stock that is rarely shorted and trades at a low multiple indicates not only that it is cheap compared to historical earnings but also that very few investors think that there is a large downside to the stock- there may be small downside risks, but those are more easily countered by pricing than larger factors that threaten a company's business prospects. According to data from Fidelity, here are eight stocks with trailing P/E multiples less than 15 and with less than 0.4% of shares outstanding held short:
Short as a % of Shares Outstanding
CNH Global NV (CNH)
CNA Financial (CNA)
The Bank of Nova Scotia (BNS)
Imperial Oil (IMO)
Dish Network (DISH)
The Toronto-Dominion Bank (TD)
White Mountains Insurance Group (WTM)
It's easy to understand why short sellers want to avoid IAMGOLD: it is (obviously) a gold miner, tied to the price of gold, and movements in commodity prices can be fairly large depending on macro events. And with the stock trading fairly cheaply- 14 times its trailing earnings and only nine times forward estimates of its 2013 earnings- it seems much easier to express a bearish position on gold by shorting the commodity directly. We are a bit skeptical of the forward estimates as they imply quite a bit of earnings growth, but even on historical numbers, the stock seems well priced.
Canadian banks TD Bank and Bank of Nova Scotia (TD also operates in the U.S., while Bank of Nova Scotia's international operations focus more on the rest of the Americas), like many U.S. banks, trade at low valuation multiples; unlike U.S. banks, they draw little fire from short sellers. The Canadian dollar has risen against U.S. currency this year as financial markets become more confident in Canada's growth based on its impressive resource endowments. TD Bank has a $74 billion market capitalization, which represents only 10 times forward estimates for fiscal year 2013. Last quarter, the bank grew its earnings 21% compared to a year ago, making the analyst consensus of 10% growth next fiscal year over this year achievable. With a beta of 1.1, it has a lower correlation to the broader market than many other banks and the 3.5% (pre-tax) dividend yield is another plus. Bank of Nova Scotia, at about a $60 billion market cap and similar market exposure, also trades at ten times forward earnings estimates though its business has been stagnant recently. Its dividend yield is even fatter than TD Bank's, at 4.1%.
Dish Network is a bit shakier, though according to Fidelity's data, short sellers are holding off for now. The satellite TV player's earnings per share are expected to be roughly flat next year after falling this year, and it trades at a forward P/E of 13. Its earnings dropped 33% last quarter compared to the same period in 2011. However, George Soros more than doubled his position in Dish Network during the second quarter, and fellow billionaire Jim Simons' Renaissance Technologies increased its stake as well.
Dish Network is cheap and is beginning to pick up some well-known investor interest, and we will keep an eye on the company for now. We're very intrigued by the Canadian banks, particularly TD Bank, based on a reasonable valuation, but quite possibly a bit more stability than U.S.-based banks, as well as their exposure to a strong national economy.