The time to buy is when there's blood in the streets, even if the blood is your own.
This well-known maxim is credited to Baron Rothschild, a British financier and member of the famous banking family, who reportedly made a fortune buying in a panic following the Battle of Waterloo.
What a great contrarian quote. In investing, a contrarian is one who attempts to profit by investing against the grain, to go against the crowd, because the crowd is usually wrong and always late. Nevertheless, sometimes a stock is down for good reason.
In this article we will attempt to distinguish if these stocks are value trades or traps. A value trap is a stock that appears to be a bargain based on fundamentals but has no catalyst for growth. The stock traps investors when they buy into the company at low prices and the stock never recovers. Sector, industry or company specific headwinds may be so strong and prevalent the company may never recover.
On the other hand, value trades are companies where pervasive cynicism about a stock or sector has driven the price so low that it exaggerates the investment's perils and belittles its future prospects. These are value trades or buying opportunities. Identifying and seizing on these opportunities is a well-known investing tactic utilized by legendary investing experts such as Warren Buffett. In the following sections we will attempt to discern if these stocks are value trades or value traps.
In the following sections, we will take a closer look at these stocks to determine if the mean target prices are justified. We will perform a brief review of the fundamental and technical state of each company. Additionally, we will discern if any upside potential actually exists based on sector, industry or company specific catalyst. The following table depicts summary statistics and Tuesday's performance for the stocks.
Dell Inc. (DELL)
DELL is trading 48% below its 52 week high and has 47% potential upside based on a consensus mean target price of $14.03 for the company. DELL was trading Tuesday for $9.56, down 2.45% for the day.
DELL fundamentals are mixed. The company has a forward PE of 5.34. DELL is trading only 6.51 times free cash flow. Dell's ROE is 33.45%. On the other hand, EPS next year is expected to only rise by 2%. Sales and EPS are down quarter over quarter and the company's net profit margin is a measly 5%.
Technically, DELL has gapped down significantly after earnings were released the last two quarters and is currently testing its 52 week lows. The stock is the definition of a falling knife. The stock has reached the cusp of oversold territory with a RSI of 31. All the major moving averages are sloping downward.
Dell is in the midst of reinventing itself because the days of the traditional PC are numbered. A new corporate mindset of "Bring your own device" may hasten Dell's demise. I say it's a value trap at this point. Avoid the stock.
Facebook Inc. (FB)
Facebook is trading 55% below its 52 week high and has 50% potential upside based on a consensus mean target price of $30.34 for the company. Facebook was trading Tuesday for $20.23, down nearly 1% for the day.
Facebook fundamentals are mixed. The company has a forward PE of 32.62. Facebook is trading for 76 times free cash flow. On the other hand, EPS for the next five years is expected to rise by 27%. Sales are up quarter over quarter and the company has a net profit margin of 13%.
Technically, Facebook looks poor. The stock is in a well-defined down trend. Recently the stock attempted to break out to the upside, but failed twice to breach the 50-day sma.
Facebook was trading for $28 the day of my initial recommendation to sell in July. The company is now trading down 44%.
Facebook's performance as a public company has been ironically anti-social. The company has lost over 40 billion dollars in value since coming public. The first strike against the company was the infamous IPO. The second strike was the dismal first earnings report where revenues were bleak and growth was waning. The third strike, yet to be thrown, is the impending tsunami of shares to be released from lock up in November.
My main problem with Facebook is a majority of 1.7 billion shares of Facebook's stock is due to hit the market as staggered lock ups expire prior to the end of 2012. Nevertheless, the new attitude of Facebook's management impressed me. Also, the new revenue stream created by introducing the gift program for friends intrigues me. This is something a can see working. This is a change in stance from me regarding the stock. Look to pick up shares of Facebook in November when the main traunche of shares will be released from lock up. This is a value trade with one caveat, buy in November.
Hewlett-Packard Company (HPQ)
HPQ is trading 51% below its 52 week high and has 36% potential upside based on a consensus mean target price of $19.55 for the company. HPQ was trading Tuesday for $14.37, down nearly 1% for the day.
HPQ fundamentals are mixed. HPQ is trading for 7.64 times free cash flow. The company has a forward PE of 3.92. HPQ pays a dividend with a nearly 3.76% yield. On the other hand, EPS for the next five years is expected to only rise by 2.88%. Sales and EPS are down quarter over quarter and the company's net profit margin is negative 4%.
Technically, HPQ is the definition of a falling knife. The stock is severely oversold with an RSI of 20, but a stock can remain oversold longer than you can remain solvent. The stock is caught in a death spiral.
I was suckered in by the valuation and some tidbits of good news leaking out prior to the last earnings report. The PC market appears to be dying on the vine. Whitman recently dropped guidance even further.
HPQ is in the midst of a reinventing itself. This will take lots of time and money. Couple this with Meg Whitman's propensity to under promise and under deliver and you have a recipe for further downside. Avoid this stock like the plague.
Research In Motion Limited (RIMM)
RIMM is trading 68% below its 52 week high and has 4% potential upside based on a consensus mean target price of $8.10 for the company. RIMM was trading Tuesday for $7.80, down over 5% for the day.
RIMM fundamentals are poor. One positive is RIMM is trading for 8.29 times free cash flow. On the other hand, EPS for the next five years is expected to only rise by 5%. Sales and EPS are down quarter over quarter and the company's net profit margin is negative 4%.
Technically, RIMM was the definition of a falling knife until they recently beat earnings estimates. The stock has begun to sell off again and remains in a downtrend.
I posit that RIMM's chances of survival are slim to none. The gauntlet in front of it is colossal. That said the stock is up after beating earnings. Don't be fooled by the short term pop in the stock. I think people are reading too much into the beat. I don't see this development as changing much for the stock. RIMM is basically just dying slightly slower than predicted.
RIMM's Blackberry smartphone was at one time like Apple's (AAPL) iPhone5 -- now it's relegated to the old school stodgy few unwilling to change. Unfortunately, I posit the release of the Blackberry 10 will be the final death spasm for RIMM. Avoid it.
Xerox Corp. (XRX)
The company is trading 18% below its 52-week high and has 16% upside potential based on the consensus mean target price of $8.31 for the company. Xerox was trading Tuesday for $7.16, down over 1% for the day.
Fundamentally, Xerox is solid. The company has a forward P/E of 6.12. The company is trading for 76% of book value and has a PEG ratio of .83. Xerox sells for 8.52 times free cash flow. Xerox's EPS growth rate was over 100% this year, yet next year looks gloomy at a mere 8%. The company pays a dividend with a yield of 2.37%. Xerox insider ownership has increased by 53.99% over the past six months.
Technically, the stock is in still in a down trend. On the other hand, the stock has made significant progress over the last few months. The major moving averages have begun to level off and the stock is trading just below the 50-day sma.
Xerox is trying to transform itself from a printer sales company to a service company where the margins are much higher. The problem is the services business competition is intense. Xerox has a shot due to its extensive list of contacts created by its established relationships with key clients. It is going to take a lot of time and money for Xerox to convert itself into a top quality services firm. Yet, I posit Xerox will pull it off. I would suggest waiting to start a position until after the upcoming earnings call on Oct 22nd. I do not expect them to stick their neck out and raise guidance so you will most likely get a better entry point.
The Bottom Line
All the stocks selected for review are trading near their 52-week lows. This fact alone carries little weight, but it's a good starting point when looking for buying opportunities. The problem is how do you tell the value trades from the traps?
Our innate instincts encourage us to depart a sinking ship. This survival tactic impacts the way we invest. When market participants panic, opportunities are created to buy stock in solid companies with sound prospects. Hopefully you've kept your powder dry and can take advantage.
These stocks are clearly at an inflection point. To open a position you must have courage in your convictions to start a position. Nevertheless, some stocks are down for good reason. You must perform your own due diligence; invest in things you know and don't make snap decisions to be successful.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
Additional disclosure: This is not an endorsement to buy or sell securities. Investing in securities carries with it very high risks. The information contained within this article for informational purposes only and is subject to change at any time. Do your own due diligence and consult with a licensed professional before making any investment decisions.