The Graham Ratio and Application

The core of value investing is to obtain an investment for less than its worth. Professional investors will typically focus on the price to earnings (P/E) ratio which compares the current share price with its per share earnings. Although this is a good gauge, more than one ratio should be considered when assessing an investment. Students of value investing should also be familiar with price to book (P/B) ratio. This ratio (P/B) compares the current share price to the current shareholder equity.

In the book The Intelligent Investor, Benjamin Graham highlights a key concept which combined the two ratios [P/E and P/B] as a gauge on the valuation of a company. These combined ratios are known as the Graham ratio. The computation is elementary, simply multiply the P/E ratio with the P/B ratio. If the product is less than 22.5, the company may be of good value. This thesis is highlighted in Chapter 14 – Stock Selection for the Defensive Investor of The Intelligent Investor. We find this concept to be so compelling that we’ve decided to back test this ratio against our watch lists from 2012. Continue reading

Berkshire Hathaway: 10-year Price Projections

In our May 6, 2012 posting on Berkshire Hathaway (BRK-A) titled “Should Berkshire Hathaway Be Trading at 1995 Prices?”, we gave price projections based on Edson Gould’s Altimeter using very conservative estimates if BRK-A paid a dividend.  As we’ve managed to achieve the middle of the three upside targets set down in our 2012 article, we’re going to list the price that we think BRK-A would be considered undervalued for each of the next 10 years.

Nasdaq 100 Watch List: August 26, 2014

Below is our watch list with the estimated price targets for the remainder of the year.

Continue reading

Nasdaq 100 Review

Below is the one year performance of our August 23, 2013 Nasdaq 100 Watch List stocks (8/23/2013 to 8/26/2014):



Symbol Name 2013 2014 % change
SHLD Sears Holdings Corp 39.6 34.67 -12.45%
EQIX Equinix, Inc. 170.01 217.25 27.79%
TEVA Teva Pharmaceutical 38.3 52.22 36.34%
CHRW Robinson Worldwide 57.2 68.45 19.67%
EXPE Expedia Inc. 48.84 87.43 79.01%
NUAN Nuance Comm. 19.31 17.17 -11.08%
MXIM Maxim Integrated 27.71 30.91 11.55%
BRCM Broadcom Corp. 25.24 38.81 53.76%
ISRG Intuitive Surgical 390.09 478.68 22.71%
NWSA News Corporation 15.75 17.62 11.87%
Avg. % change 23.92%
NDX Nasdaq 100 Index 30.26%

The watch list of stocks gained +23% versus a gain of +30% in the Nasdaq 100 Index.  The best performing stock, with gains of +79%, was Expedia which was a strong interest stock featured on our July 26, 2013 watch list.  At the time, we said the following:

Travel website operator Expedia (EXPE) has suddenly dropped in on our watch list with a –27.38% decline in the stock price on Friday July 26, 2013.  We’re not sure that a –28% decline in quarterly earnings requires a –27% decline in the stock price.  This type of activity suggests that since June 2012, investors had not sufficiently assessed the prospects of the company before acquiring the stock.  Extreme swings in the price indicate that there is more downside risk.

Applying Edson Gould’s Speed Resistance Lines gives us a conservative downside target of $42.56 and an extreme downside target of $22.70.

Our expectation is that there is a good chance that Expedia will decline to the $34 level.  Once falling below $34, Expedia should be reviewed on a fundamental basis as a going concern.  There may be significant opportunity for this stock as the performance has been in line with industry competitors.

As is often the case, we were too conservative in believing that EXPE would achieve the rising $34.00 level.  Instead, EXPE fell exactly to the rising $42.56 level and moved higher from there (updated chart below).

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Another strong interest stock in the same July 26, 2013 posting, Equinix (EQIX) also fell only as low as the conservative downside target.  From the peak price of $229.02, EQIX spent only four trading days below $158.37.  It has been nothing but an uphill climb since.

The worst performing stock was Sears Holdings (SHLD).  Sears has essentially traded with descending peaks since 2007 with price support at around $30.  A break below $30 could result in significant loss for any remaining shareholders.  Private equity firms must be circling Sears at the prospect of a decline below the long-term support.

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The strong interest stock from the August 23, 2013 watch list was Maxim Integrated Products (MXIM). At the time we said of MXIM:

“The stock of most interest to us is Maxim Integrated Products (MXIM).  Maxim has had a great run since our March 20, 2010 highlight of the chip sector as potential investment candidates (found here).  In the chart below, since the 2008 trough, Maxim has maintained a consistent ability to rebound from the conservative downside target of $26.97.  However, if the stock cannot hold the line at $26.91, then we expect that the stock will fall to the $19.03 level.  The extreme downside target is $11.10, however, we don’t expected this to be achieved.  Potential investments at the current level along with stepped up amounts of capital at $19.03 and $15.87 is recommended.”

Since August 23, 2013, Maxim increased as much as +29.05% before falling to a 1-year gain of “only” +11%.  If we include the dividend of 3.80%, the total return would be +15% for the last year.  Below is the updated SRL for MXIM with new conservative and extreme downside targets.

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Although Maxim has fallen considerably since the June 2014 peak, we’re only willing to re-consider the stock after falling at or below the rising $27.79 level.

Investment Consideration

To put all of the gains (and losses) into perspective, we like to compare any profits with the historical market return.  Below are the annualized compounded annual growth rates (CAGR) for the last 50, 40, 30, 20 and 10 years (adjusted for inflation) [source].

years CAGR
50 5.90%
40 5.80%
30 8.42%
20 6.71%
10 6.67%

If an investor can achieve two times (2x) the 30-year CAGR in a single year, it is worth considering alternative investment opportunities while selling the principal and allowing the profits to compound in those stocks that pay a dividend.

U.S. Dividend Watch List: August 22, 2014

Top Five Watch List Performance Review

In our ongoing review of the NLO Dividend Watch List, we have taken the top five stocks on our list from July 26, 2013 and have checked the performance one year later. The top five companies on that list can be seen in the table below.

Symbol Name 2013 Price 2014 Price % change
IBM IBM 185.42 190.41 2.7%
NWN Northwest Natural Gas 42.26 44.71 5.8%
XOM Exxon Mobil Corp. 87.52 98.50 12.5%
PM Philip Morris International 85.37 84.34 -1.2%
MAC Macerich 56.72 64.89 14.4%
      Average 6.8%
         
DJI Dow Jones Industrial 15,010.51 17,001.22 13.3%
SPX S&P 500 1,663.501,988.4019.5%

We didn’t elaborate much about the top five companies on the list but we did indicate our position in Coca-Cola (KO). Coca-Cola performance was sub par with a gain of +6.75%. However, when we include dividend into the picture, the total gain is+ 9%.

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U.S. Dividend Watch List: July 25,2014

The Dow is approaching its all-time high while the S&P 500 closed above its all-time high this week. We highlighted our macro view in the Dow Theory update on August 14, 2014. As a result of the market upward surge, our watch list dwindled down to sub 100 for the first time in several weeks.

Because the market multiple is at 19, many companies are likely to be closer to fair value and over valued. We highly encourage extra caution and due diligence when filtering through the list. Continue reading