Wednesday, June 18, 2008

What happens when a stock lose investor interest

Benjamin Graham had seen a long history of US stock markets, almost 35 years, before he published the first version of Intelligent Investor. He had put a big emphasis on never paying more than 20 times last year's earnings for a company and 25 times average last seven years' earnings. This seemed to be a severe restriction for Indian markets since, excluding commodity companies like steel,cement,oil&gas etc., all the other companies in Sensex were trading much above a P/E of 20 after October 2005. That P/E has still not come down below 20 in June 2008, a period of almost 32 months. But if you see outside the Sensex, you will be able to find a lot of companies trading above a P/E of 20-25, now trading at a P/E of single digit. For example

Automotive Axles touched a P/E of 28.5 (at a price of 820) in March 2006 and now trading at a P/E of 7.6 (at a price of 275)
ZF Steering Gear touched a P/E of 19.9 (at a price of 900) in August 2005 and now trading at a P/E of 5.2 (at a price of 160 after 1:1 bonus)
Gateway Distriparks touched a P/E of 64 (at a price of 300) in November 2005 and now trading at a P/E of 11 (at a price of 92 after 1:4 bonus)

Automotive Axles pays dividend of INR 12.5 giving a yield of around 5%, ZF Steering Gear pays dividend of INR 8 again a yield of 5%, gateway distriparks pays dividend of INR 3 giving a yield of 3.25%.

These stocks were not a buy in 2005/2006 but I think today they are all worth taking a risk. There is a big question of oil prices looming large over auto and logistics industry. But it seems that it is priced into the stock prices. Remember that the companies have increased their profits by almost 30%(for automotive and zf) to 130% (for gateway) during this time frame. So it's not just the contraction in prices, it is also increase in profits that have brought down the valuations.
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