A Wall Street adage warns, “Don't try to catch a falling knife.”
I do it frequently.
Buying good stocks on bad news is a sound methodology, I believe. You may not catch the exact bottom, but you're likely to find a good entry point.
Each quarter, I compile a Casualty List of stocks that have been knocked down in the quarter just concluded, and that I think have excellent rebound potential. For the most part, they have lived up to my expectations.
In the fourth quarter of 2023, energy stocks took it on the chin. Slow economies in Europe and China suppressed demand a bit, and environmental regulations made energy more expensive to produce. High interest rates in the U.S. also hurt demand and raised costs.
Of the four stocks newly inducted to my Casualty List, two are energy stocks. Here's a rundown on the four new casualties.
Ovintiv
Ovintiv Inc. (OVV, Financial) is an oil and gas producer based in Denver, Colorado. Before a reorganization in 2020 it was called Encana and had headquarters in Calgary, Alberta, Canada. In the U.S., Ovintiv operates mainly in Texas and Oklahoma. In Canada, it drills in British Columbia and Alberta.
Ovintiv shares fell 7.04%% last quarter, while the S&P 500 gained 11.69%. Figures are total returns including dividends.
I think Ovintiv can make decent profits if oils stays near $70 a barrel, strong profits if oil averages $80 and terrific profits if oil runs up to $100 -- which I would expect if the Middle East conflict heats up.
This stock looks very cheap to me, at four times recent earnings and less than 1 times revenue.
Patterson-UTI
Contract drillers don't own land or the oil beneath it, but are paid for installing and operating wells. One leading driller is Patterson-UTI Energy Inc. (PTEN, Financial), based in Houston. Oil service stocks like Patterson tend to be more volatile than producers such as Ovintiv.
In good times, high volatility is a good thing. Patterson-UTI has sold for 20 times earnings, on average, over the past ten years. After dropping 22% in the fourth quarter, it sells for 6.6 times earnings and 0.71 times revenue– dirt cheap, in my estimation.
Target Hospitality
Target Hospitality Corp. (TH, Financial) dropped more than 38% in the fourth quarter. The company, with headquarters in Woodlands, Texas, owns the Pecos Children's Center, which is a temporary home to children who have entered the U.S. illegally.
It also owns the South Texas Family Residential Center in Dilley, Texas, which houses adult immigrants awaiting processing or deportation. In addition, it offers temporary housing for oilfield service workers, and provides services to other customers, including housekeeping, catering and security.
The stock fell 38% in the fourth quarter. Analysts think the company's revenue will fall to just under $400 million in 2024 from about $550 million in 2023. Adding to uncertainty, immigration policy is being hotly debated in Congress.
At six times recent earnings, I think Target Hospitality is a decent speculation.
BorgWarner
Down 11% in the fourth quarter, BorgWarner Inc. (BWA, Financial) makes auto parts, such as turbochargers, transmission parts and emissions systems. The company is based in Auburn Hills, Michigan. Its biggest customers are Ford and Volkswagen.
The stock's performance has been unremittingly lousy. Investors who got in ten years ago have a loss. So do investors who bought the stock five years ago, three years ago, and one year ago.
Why would I recommend such an underperformer? Well, to start with, BorgWarner has posted a profit in 14 of the past 15 years. Also, the stock has usually sold for close to 15 times earnings but its multiple now is 11, and it's under eight based on analysts' forecasts for 2024.
The record
One-year returns can be calculated for 79 of my Casualty Lists, going back to 2000. The average one-year return has been 14.9%. That beats the average return for the Standard & Poor's 500 Total Return Index, which has been 10.6%.
Only half of the columns have beaten the index, but 50 of the 79 have been profitable.
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.
My selections from one year ago were disastrous, as all four of my picks declined. Mosaic Co. (MOS, Financial) fell 27%. Fulgent Genetics Inc. (FLGT, Financial) and LendingClub Corp. (LC, Financial) were down in the mid-teens. Resideo Technologies Inc. (REZI, Financial) declined 6%.
John Dorfman is chairman of Dorfman Value Investments in Boston, Massachusetts. His firm or clients may own or trade the stocks discussed here. He can be reached at [email protected].
