Scandals in Value Names Offer the Best Opportunities
Edgar is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
A real estate broker once told me that if you want to get ahead in your investments, make sure you look for the 3 “D”s for initial profit: death, divorce, and disaster. As it turned out, my very first home purchase ended up being a divorce story. The sellers were a couple who could not spend another minute living together under the same roof. Their eagerness to get rid of the property resulted in an immediate $25,000 unrealized gain due to a generous discount acquiesced by the couple. Purchasing my rental property in 2007 was already risky enough, but the discount prompted me to take the leap of faith.
A comparison could be drawn in equity investing. A discreditable action by an executive of a large cap name could be viewed as a short term “disaster” and offer solid opportunities, only if the free cash flow is uninterrupted and the company remains fundamentally sound. While an investor might be reluctant to enter into a stock position due to lack of momentum or low volatility -- sort of how my indecision to buy a home in a soft real estate market kept me at bay -- an ultimate decision might change given the generous discounts created by market inefficiencies.
Consider what happened to Wal-Mart (NYSE: WMT) as the bribery allegations tumbled the stock 4.66%, the largest drop the retail giant experienced this year. Its volume surged from an average 7.8 million to nearly 38 million as fund managers dumped millions of shares in panic. This massive sell-off of the most valued component of the DOW30 sent fear shockwaves even into the Mexican IPC index, which fell 1%.
Walmart still remains in my top four dividend stock picks to own long term, along with Chevron, Kraft, and Verizon. All of these companies demonstrated resilience during turbulent times and outperformed their peers with dividend growth and consistency.
Another scandal that has been surfacing is Aubrey McLendon’s private deals that have put a spotlight on his fiduciary relationship to his shareholders. The CEO of Chesapeake Energy (NYSE: CHK) allegedly used his well stakes to rack up nearly $1.1 billion in personal loans. He was also able to sell future oil and natural gas production in exchange for immediate cash in which he raised $130 million. Since natural gas stocks have remained under selling pressure due to continuous weakness in spot prices, CHK had already lost 40% since August of 2011. Even before the rumors about Mr. McLendon’s undisclosed dealings began surfacing, Chesapeake was already entering into oversold territory with a single digit PE ratio of 8.1. The stock resulted in a 3.21% pop yesterday after investors realized that it sold off beyond its book value of $25 a share.
While I agree on McClendon’s right in refusing to report the return on sales of his private transactions to the SEC, I am thwarted by the idea that his lender EIG Global Energy Partners that authorized the loans, has a large stake in Chesapeake itself. This raises a lot of questions about the integrity of Aubrey McLendon and definitely paints a different picture than what we are used to seeing on the Mad Money show. Whether this leaked information has already been priced into the stock is unclear, but keeping a major natural gas player like CHK on your watch list that trades below its book value is definitely a must.
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