Investing in underpriced stocks often requires patience, since the expectation is generally for a gradual rise in value. But sometimes these stocks attract the attention of corporate raiders and shoot up overnight. This recently happened with Clorox Corp. (CLX). An investor group led by Carl Icahn determined Clorox was undervalued and purchased 9% of the outstanding stock, which resulted in surge of about 9% in Clorox's share price within two trading days. Before Icahn's investment, Clorox shares had been trading for 16 times trailing earnings and yielded more than 3%.
I set out to find undervalued wallflowers that missed the market rally by running a screen for mid-cap and large cap stocks that trade at price-to-earnings (P/E) multiples well below the S&P 500. My screen looked at both trailing 12-month P/E and forward P/E multiples. According to Bloomberg, the S&P 500 is presently priced at 16 times trailing 12-month earnings and 14 times forward earnings.
Beginning with a list of some 20 low P/E stocks, I ran a third screen, which narrowed the list further to stocks that also trade at a price/earnings-to-growth (PEG) ratio discount to the S&P 500. PEG ratio measures a stock's value relative to its long-term growth prospects. The S&P 500 trades at a 1.6 PEG ratio, according to recent Thomson Reuters data. I also eliminated stocks trading above their book value as well as stocks that yield less than S&P 500, which currently yields close to 2%.
I ended up with four bargain stocks that passed all of my valuation screens, pay dividends and offer higher yields than the S&P 500.
1. PartnerRe Ltd. (PRE)
Dividend Yield: 3%
Headquartered in Bermuda, PartnerRe sells property reinsurance coverage and casualty reinsurance, including employer liability coverage and workers comp. Insurance ratios for this company have deteriorated recently because of the New Zealand earthquake and flooding in Australia, but analysts expect PartnerRe to deliver 32% earnings growth this year and 9% growth each year for the next five years.
PartnerRe shares currently trade at 6 times trailing earnings, 9 times forward earnings and carry a PEG ratio close to 1. In addition, the shares trade at only 80% of book value and yield nearly 3%. While the S&P 500 is up more than 20% in the past twelve months, PartnerRe's shares have risen only 6%. Analysts have set price targets as high as $100 for PartnerRe, which is about 20% above its recent share price of $81.
2. Banco Santander SA (STD)
Forward Dividend Yield: 4%
Banco Santander, S.A. provides banking services to customers in Spain, the U.K., Portugal, other parts of Europe and some countries in Latin America. A weak European economy has hurt Santander's operations in Spain, but the company is benefiting from strong growth in its Latin American business. Santander is taking advantage of current low purchase prices for banks to make acquisitions. The company purchased a Swedish bank and several U.K. branches of a Scottish bank last year and recently bid $5.8 billion to acquire a bank in Poland.
Santander is valued at 9 times trailing earnings, 8 times forward earnings and has a PEG ratio of 0.8. The shares trade right at book value. Despite analyst estimates of 15% earnings growth next year and 12% growth each year in the next five years, Santander's share price has declined 12% in the past year. Santander’s global banking competitors trade at P/E multiples near 13 times trailing earnings, which is 40% above Santander’s valuation.
3. Nippon Telegraph and Telephone (NTT)
Dividend Yield: 3%
Nippon supplies telecommunications services to customers in Japan. The company is struggling to deliver sales growth due to declining numbers of fixed line customers, but cost cutting efforts are boosting profitability. Analyst forecasts of earnings growth are modest, at only 5% a year, but Nippon generates large amounts of cash flow -- enough to fund 15% growth in dividends a year recently. Nippon's share price is up only 6% in the last 12 months.
In the past five years, P/E multiples for Nippon shares have averaged close to 13.5 times trailing earnings -- 35% higher than its current multiple of 10. The company also currently trades for just 64% of book value. [My colleague Ryan Fuhrmann recently called Japanese stocks "The Most Undervalued in the World." Read why he thinks that spells an enormous opportunity for investors.]
4. Great Plains Energy (GXP)
Dividend Yield: 4%
Great Plains Energy is an electric utility serving about 820,000 businesses and homes in Missouri and Kansas. Analysts expect rising industrial demand, and recent rate hikes will help the utility deliver long-term earnings growth of about 9% a year. Despite an improving outlook for electrical demand, Great Plains shares trade well below S&P stocks at just 12 times earnings, a 13 times forward earnings and 90% of book value. Great Plains presently yields more than 4% and has lagged the S&P 500's 20% gain in the past year by half. In past years, Great Plains shares have traded for 17 times trailing earnings, which is more than 40% above current levels.
Action to take--> My top pick for conservative investors is Nippon Telegraph and Telephone. This undervalued stock has a nice yield and an impressive track record of dividend growth. More aggressive investors may find Banco Santander appealing. This company has the highest projected earnings growth rate in the group as well as the group's second-lowest valuation.
This article originally appeared on StreetAuthority
Author: Lisa Springer