You know I am always on the lookout to find out if there are any parts of the investment universe that are undervalued.

I do not always have the resources or time to be able to do such analysis and thus rely on a few fund managers and market commentators I have come to respect. I read their commentary and try to combine what they have said or written to form my own picture.

Usually one or two of them have ideas that I investigate further but its usually not all that clear as to what is undervalued.

The recent third quarter commentaries was however so clear as to what is undervalued that it was hard to miss.


Below are extracts of the Q3 reports (emphasis mine):


Jeremy Grantahm – GMO – Just Deserts and Markets Being Silly Again (pdf)

October 2009

Yet Another Plug for U.S. Quality Stocks

Our main argument is quantitative. Quality stocks (high, stable return and low debt) simply look cheap and have gotten painfully cheaper as the Fed beats investors into buying junk and other risky assets, a hair-of-the-dog strategy if ever there was one.

In our seven-year forecast the quality segment has a full seven-percentage-point lead per year over the whole S&P 500, or 9% over the balance ex-quality. This is now at genuine outlier levels.

In addition, there are qualitative arguments. We like owning high-quality blue chips if we are indeed going into a more difficult seven years than any we have faced since the 1970s.

The problems of reducing debt and the potential share dilution that can go with it as it did in Japan for a decade, particularly play to the strength of the largely debt-free high-quality companies.
And for nervous investors there is yet another reason for favoring quality stocks: their more than 50% foreign earnings component, which is higher than the balance of the S&P 500 with its heavy financial component.

In the long run, quality stocks have proven to be the one free lunch: you simply have not had to pay for the privilege of owning the great safe companies, as plain logic and established theory would both suggest.


Richard Pzena – Pzena Investment Management – Third Quarter 2009 Commentary

October 2009

Quality continues to be a significant theme in our portfolios, as many companies with strong balance sheets that are leaders in their industries areavailable to us in the cheapest quintile of valuation.

This is particularly prevalent in (but not limited to) the technology sector, where companies have low or no debt, and cash balances that would see them through the most extreme business downturn.

These businesses typically attract premium valuations, but are now some of the cheapest in our investment universe. We have taken advantage of this unusual opportunity


While market pundits are counseling “de-risking” as their advice du jour, equities in general and value spreads in particular remain attractive despite the sharp run up of the last seven months.

History suggests that we are still in the early innings of this value cycle, with the next leg up likely to be driven by earnings increases in the context of a modest economic recovery.

We continue to find high quality companies in sectors experiencing near term stress where we believe research and patience are the ingredients for long term outperformance.


Joel Greenblatt – In a Yahoo Tech Ticker interview – Seeking Value in a momentum market

28 October 2009

Generally speaking, Greenblatt says the value today is predominantly in “higher quality business that didn’t get hurt as badly in the recession” vs. the low-quality names like AIG and Fannie Mae which led the rally off the March lows.

Among the “beaten up stocks” currently ranked highly by Greenblatt’s are construction companies, select retailers and McGraw-Hill.

If large quality companies are cheap I looked at a few possible candidates in the USA as identified by Joel Greenblatt’s ?Magic Formula? and sorted by price to earnings (?PE?) ratio.

CompanyPrice (17.11.09)Debt/Equity (%)Market cap (USD m)PE RatioDividend Yield (%)Price to book
NOBLE CORP44.7617.511,7247.10.41.8
ELI LILLY & CO35.94155.341,2967.85.54.2
PFIZER INC17.9430.1144,7688.23.62.2
FOREST LABS INC28.980.08,7458.30.01.9
HARRIS CORP45.1268.75,9439.32.03.1
CARDINAL HEALTH31.4941.811,4219.52.22.3
DIAMOND OFFSHORE103.5815.014,39910.20.54.0
LOCKHEED MARTIN76.31132.829,05810.23.39.3
L-3 COMM HLDGS79.3477.89,22110.31.81.4
PITNEY BOWES INC25.07N/A5,19310.45.767.8
NATL OILWELL VAR46.136.919,29510.40.91.4
NORTHROP GRUMMAN56.0333.117,58010.53.11.4
RAYTHEON CO50.2125.419,24110.62.52.0
GENERAL DYNAMICS67.9440.026,21110.92.22.2
DISH NETWORK-A22.15N/A9,89811.20.0N/A
GARMIN LTD32.330.06,48811.32.32.5
FLUOR CORP45.375.78,12111.41.12.6
AMGEN INC56.2849.956,96312.00.02.5
AUTOZONE INC142.62N/A7,11212.10.0N/A
JACOBS ENGIN GRP38.882.54,81812.10.01.8
BIOGEN IDEC INC46.0519.713,31712.20.02.0
BRISTOL-MYER SQB24.2355.147,99912.45.13.7
JOY GLOBAL INC56.85106.65,81712.81.26.6
APOLLO GROUP-A56.3950.98,73113.40.07.5
FISERV INC48.73158.27,49913.70.02.6
LORILLARD INC79.380.012,75213.85.033.5
OMNICOM GROUP37.2687.211,59713.91.62.9
ITT CORP53.0670.29,69414.01.62.7
VIACOM INC-B31.27113.819,13014.00.02.4
MCGRAW-HILL COS31.8598.910,03014.02.86.0
CA INC22.3644.611,66614.10.72.4
AMDOCS LTD27.010.05,50914.10.01.7
DELL INC15.9547.131,19214.40.06.7
CLOROX CO60.21N/A8,41814.43.3N/A
DR PEPPER SNAPPL27.78135.17,05814.50.02.3
MCKESSON CORP63.7440.517,08114.80.82.5
TIME WARNER INC32.5594.538,00514.82.31.1
UNITED TECH CORP69.9372.165,56215.32.23.5
LABORATORY CP74.19102.07,87915.30.03.9
QUEST DIAGNOSTIC59.0785.510,92215.70.72.8
ROSS STORES INC45.5915.15,70316.61.05.3
GAP INC/THE22.311.115,56916.81.53.3
COACH INC34.482.010,99717.90.96.0
AUTOMATIC DATA44.0114.522,20918.33.13.9
EXPEDIA INC24.9666.37,20720.50.02.8
MASTERCARD INC-A231.008.829,97321.20.39.3
DISCOVERY COMM-A31.8868.38,51034.30.01.5

Source: List of companies ? Magic Formula Investing (

Financial information ? Bloomberg (


A list of cheap large European companies can be found on my article Dogs of the STOXX 2009 – Update Kindly note that the output of the two stock screens above is just to identify possibly undervalued companies. It should just be a starting point for your analysis.


Next week Tuesday Nikki and I am off on holiday to South Africa. I am really looking forward to more sunny days and spending relaxing time with my family.

I have lined up some interesting guest posts for the first two weeks when I have limited internet access.



Your packing his bags analyst.





PS To find value investing ideas where you invest take a look at our stock screener service

PPS It costs less than a cheap lunch for two and if you do not like it you get your money back. Why not sign up right now before it slips your mind?


Disclosure: I have a position in Johnson & Johnson