Welcome to the jungle. Today's stock market is not the one you inherited from your parents or even your grandparents. In prior generations, information took a bit longer to spread across sectors and investors. It took time for everyone to make the same sensible buy or sell decision.
Today, information moves at the speed of light, and many voices compete for your attention. Some saying 'buy buy buy,' while others saying just the opposite. So how can you invest in a situation like this? Well, how does reverting to a strategy that never fails sound? It's kind of like the one Warren Buffett likes to live by.
In the craziness of potential overvaluation in the S&P 500, you must cover your downside with cheap stocks, not those that are "cheap for a reason." Stocks like Pfizer (NYSE: PFE), Morgan Stanley (NYSE: MS), and Vale (NYSE: VALE) are cheap stocks that show signs of being truly undervalued.
The casinos are closed
Wall Street traders may seem courageous in the face of wild financial markets. However, their outsized bonuses and commissions allow them to operate with higher everyday risk. On the other hand, retail investors would be better served by paying their cards a bit closer to the vest.
Now that the VIX is below 15% again, momentum has become a phenomenon. So you must look for businesses that produce high-quality, reliable cash flows selling at unjustifiable discounts today.
That is where the warning label 'It must be cheap for a reason' can be ripped off regarding this short list of businesses. But first, you must understand why they were chosen from the stock screener.
Taking the world of medical stocks for Pfizer, financial firms for Morgan Stanley, and mining stocks for Vale, you'll see why they are clear outliers. Starting with price action, you should primarily look for stocks that are 'cheap' in relation to their 52-week high prices.
Starting with large-cap pharma stocks, the industry trades at an average of 84% off its 52-week high prices. In comparison, Pfizer is the worst performer at 55%, deep into a bear market. However, markets have reason to believe that this discount is nothing short of insane.
Hopping over to the financial sector, these stocks trade at an average of 86.4% of their 52-week highs; Morgan Stanley stock, however, comes in at 79% officially in a bear market despite recent upticks. Don't worry; it's still precisely what you're looking for.
Lastly, Vale is not quite a mining lagger, as it is hovering near 81.0% of its 52-week high relative to the industry's 79.3% average. However, the following factors may surprise you just as much as analysts.
The X factor
How can you be ultimately confident in assuming that these names are not cheap for a good reason? Well, it all comes down to their earnings expectations and price targets. If you're looking for double-digit upside, you came to the right place.
While pharma stocks expect to grow their EPS by an average rate of 14.2% in the next twelve months, Pfizer analysts have blown this statistic out of the water by assigning a massive 100.6% expected jump. This belief is backed up by their $42.5 price target, implying a 41.8% upside from today's prices.
Is this the case for the other two? Not quite, but they're close enough. Morgan Stanley is trading at a P/E of 14.3x, which is awfully close to the industry average of 16.4x; their EPS projections also reflect a close call at 18.3% relative to the 21.3% average.
What is essential to keep in mind for Morgan Stanley is that, despite drivers like P/E and earnings growth being right in line with the industry, its stock price is still trading at a significant discount to its peers relative to 52-week high prices, a discrepancy you can take advantage of today.
What is there to hope for with Vale, Brazil's most significant player in iron ore mining and exportation? For starters, China is its biggest customer. China is investing heavily in infrastructure, which - you guessed it - needs iron ore to complete projects.
This could be why the stock is trading at a more bullish momentum to the industry average while still carrying the weight of its expected EPS growth for the most part. Analysts are shooting for the stars here, with a 20.4% EPS advance projection, while the rest of the industry is projecting a mere 13.1%.
While Vale carries the growth crown, its stock is severely discounted to the peer group on a P/E basis. Its 6.3x multiple will fall around 64.8% below the industry's 17.9x average P/E valuation.
Stories of unrecognized growth, with price action pointing to gaps to be exploited, take your pick and protect your downside, as these cannot go much lower from here.
