A right and wrong way to buy stocks
Since the market hit bottom, these Canadian specialists in small cap stocks have had big returns, but now they’re more cautious with buys.
It’s been a very good year.
Just a year after the stock market tumbled to the bottom (on March 9, 2009), Canadian investors can look back on a year of good buys. Right?
Well, some investors can. In many cases, they were those who followed the advice of the ever-quotable Mr. Warren Buffett.
“Be fearful when others are greedy and greedy only when others are fearful.”
In fact, it’s not as easy as it sounds. But those who follow this advice find that it works more often than not.
One group of independent researchers we consult regularly followed it successfully. Of the 20 stocks they recommended over the past year, 18 have gone up.
So where do we go from here, ask the editors of KeyStone’s Small Cap Stock Report?
Above all, they say, we stick to the principles that got us here in the first place — buying stocks with solid value at reasonable prices.
Those principles make them more cautious with buys today. But they do have four.
Everyone and their dog
In the fall of 2008, when the stock market began to feel the full brunt of the financial crisis, this advisory began prudently issuing buys.
Stock valuations “looked ridiculous from a fundamental perspective,” the editors explain.
“Yes it was hard to hit that button when everyone and their dog was exiting the market, but it proved to be an excellent choice in the long run.”
They followed Mr. Buffett’s formula, but carefully. “With others fearful, we were certainly greedy, but we tempered it with a healthy dose of conservatism.”
Buy good manufacturers in stable industries, they advised their clients. “It was not our job to ‘time’ a market turn, only to position ourselves to wait out the recession and profit when the turnaround eventually hit.”
Doubled their prices
The advisory earned some handsome profits with a pair of goods and services trusts. K-Bro Linen Income Fund (TSX-KBL.UN) supplies hospitals and hotels. The Boyd Group Income Fund (TSX-BYD.UN) is in the auto collision repair business in western Canada and six U.S. states.
“Both have basically doubled their unit prices and provided excellent monthly distributions for the past 16-18 months,” says the advisory. Yesterday, Boyd reduced its distribution by 5 cents, to $0.025. It has been yielding 5.5 per cent and it trades at $5.40.
K-Bro yields 7 per cent on its $1.10 distribution and trades at $15.68. In the current issue, the advisory gives no specific recommendation on either trust. Nor does it do so for two Chinese stocks.
Sino-Forest Corporation (TSX-TRE) owns vast tree plantations in China and Migao Corporation (TSX-MGO) produces potash fertilizer. A year ago, their valuations “screamed buy” and they, too, doubled in price. Sino-Forest recently slipped to $19.82, a couple of dollars below its 52-week high, and Migao is at $7.30, $1.70 below the high it reached earlier this year. Neither pays a dividend.
Four stocks to like
Having enjoyed this success, what is the next step? “Have we come too far too fast?” ask the editors. People find it easier to buy stocks when the market is up, but is it the right time “to pile into this market?”
Not exactly, they say. “Why are we no longer pounding the tables to buy and why are we exiting some positions at a time when many are telling you it is a great time to get into the markets?”
The one-word answer is valuation The companies they liked in 2008 and 2009 are still great companies, but they’ve done so well they’re no longer trading at great prices.
But there are still some good individual values out there. “Again we use the old adage that it is not a stock market, it is a market of stocks, to illustrate our point.”
While they would not rush out to buy an ETF or index fund tracking the S&P/TSX Composite Index, they do have four stocks they like right now.
One is Chinese, a favourite theme for these researchers. Boyuan Construction Group (TSX-BOY) is working in three of the fastest-growing regions of China and has a large order backlog. Do not chase the share price, the editors say, but place limit orders from $2.90 to $3.30. Today it is trading at $2.91. There is no dividend.
Western Financial Group (TSX-WES) offers insurance, banking and other financial services from its headquarters in High River, Alberta. Just this morning it announced that it is launching a dividend reinvestment plan (DRIP). It yields 1.3 per cent on the $0.04 dividend. This stock has been trending upward and currently sits at $3.49.
This advisory has two more stocks for venturesome investors. These are microcap stocks — “not for the risk averse.”
West Mountain Capital Corp. (TSX/V-WMT) is a waste recycling company in Calgary. Its subsidiary, Phase Separation Solutions, is an environmentally friendly soil remediation specialist. It trades at $0.40.
McVicar Industries (TSX/V-MCV) may not sound Chinese, but it produces specialty chemicals for the Chinese market. It is trading at $0.52. As you would expect, neither pays a dividend.
The advisory concludes with some fundamental advice. The more stocks you buy that have solid cash flow, rising revenue and earnings, limited debt and reasonable valuations, the more success you will have.
The more stocks you buy that are not producing sufficient cash flow, revenues and earnings, but are trading in “hot sectors” at unreasonable valuations, the more money you will lose over time.
“It’s a simple equation, but one that bears repeating over and over again.”
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