Value investors speak in reverential tones about Benjamin Graham.
A hedge fund manager, Columbia University professor and author, Graham (1884-1976) is widely considered the father of value investing.
Once a year, I attempt to guess what stocks the maestro would buy if he were alive today.
Graham method
I use a simplified version of Graham’s stock-picking criteria, looking for stocks with these characteristics:
- Stock price less than 12 times per-share earnings.
- Stock price less than book value (corporate net worth per share) and less than 1.5 times tangible book value (excluding intangibles such as goodwill from the calculation).
- Debt less than 50% of stockholders’ equity.
Today’s picks
Using those criteria, I’ve chosen five stocks that I believe Graham might like now if he still walked the earth.
The largest stock that meets my Graham criteria is Unum Group (UNM, Financial), a leading writer of disability insurance. It’s cheap at seven times earnings. Disability claims typically go up during recessions, and many people expect a recession in 2023 if not sooner.
Therefore, Unum is risky. But I believe the risk is worth taking. The company has always seemed well-run to me. It has increased its earnings at a 10% annual rate in the past decade. It hasn’t posted an annual loss since 2004, which means it got through the nasty recession in 2008 okay.
Even cheaper isMeritage Homes Corp. (MTH, Financial), weighing in at less than four times earnings. Investors have soured on the homebuilders as the Federal Reserve has gotten serious about rising interest rates. That means mortgage payments hurt more than they did a few months ago, discouraging buyers.
From a peak near $122 in late 2021, Meritage has fallen to about $89. In my opinion, it’s now undervalued. Granted, interest rates are a headwind, but pent-up demand for houses is a tailwind.
Debt-free is Farmers & Merchants Bank of Long Beach (FMBL, Financial). This bank has been controlled by the Walker family since C.J. Walker founded it in 1907. Currently, Daniel K. Walker is chairman and Henry Walker, his brother, is president.
Revenue and earnings have grown at about a 6% annual clip over the past decade – not spectacular but steady. I like to see banks post a return on assets of 1% or better. This bank has managed to beat that yardstick in 11 of the past 15 years.
The stock price, lately just over $8,000 a share, may be an impediment, but quite a few brokerage houses allow purchase of fractional shares.
I think that employment agencies may benefit from the fact that businesses are having trouble filling vacant positions. Among these,Kelly Services Inc. (KELYB, Financial) meets my Graham criteria.
Kelly also stands out as having a very low ratio of debt to book value (only 6%). I recommended it a year ago, but with a poor result (down 13%). I will try again, because I think the next year or two looks good.
Finally, in light of the fact that most economists think a recession is at hand or soon to come, I’ll go with Seneca Foods Corp. (SENEA, Financial), a provider of canned and frozen fruits and vegetables. Its brands include Libby’s, Aunt Nellie’s and Green Valley.
Seneca’s earnings jumped during the worst of the pandemic, and now have tailed off some but remain above their typical level before 2020. If we do have a recession, some people will trade down from fresh produce to frozen or canned. Seneca sells for less than tangible book value.
Last year
Last year was a poor one for my Graham-inspired choices. Argonaut Gold Inc. (ARNGF, Financial) plunged 81%, mostly because of huge cost overruns as it tried to open the Magnino mine in Ontario, Canada.
Two of my other picks, Citizens Financial Group Inc. (CFG, Financial) and Kelley Services, also lost ground. Only Loews Corp. (L, Financial) was up, gaining 6%.
As a result, my four picks collectively lost almost 24%, far worse than the 3% loss in the S&P 500.
The bad result pulled my long-term average in trying to channel the ghost of Graham down to 16.2%. That is still well above the total return on the S&P 500, which has been 11.8%.
In 19 years, my picks have been profitable 12 times and have beaten the S&P 13 times.
Bear in mind that my column results are hypothetical and shouldn’t be confused with results I obtain for clients. Also, past performance doesn’t predict the future.
John Dorfman is chairman of Dorfman Value Investments in Boston. He can be reached at [email protected]. He or his clients may own or trade stocks discussed in this column.
