Contrarian Shopping List

"We simply attempt to be fearful when others are greedy and to be greedy only when others are fearful."

-- Warren Buffett

Out of the quadrillions of quotations quarried from that most loquacious of quotationists, this one holds a special place in the hearts of Foolish investors. Are you looking to "buy low" so as to later "sell high"? If so, your best chance of getting that initial low entry price comes when panicked sellers are unloading their shares at whatever price is on offer.

In today's column, we search the ranks of Wall Street's motivated sellers and note which stocks they're most frantic to unload. Therein may lie the makings of a contrarian investor's shopping list. But don't just take my word for it. Before you decide to go in through Wall Street's out door, check your thinking against the collective intelligence of Motley Fool CAPS investors.

Today's contenders include:

The problem with pessimism
The problem with going against the grain on Wall Street is that when professional traders get pessimistic, their grim outlook can become a self-fulfilling prophecy -- at least in the short term. The more desperate institutions become to abandon a stock, the lower the price they'll accept to get rid of it. And as their "ask" prices drop, the "bid" prices of buyers will fall in tandem, creating the very price decline they feared in the first place.

Until the selling stops.

In through the out door
When it will stop is anybody's guess. But until it does, savvy investors have a chance to "get greedy" and snap up some bargains from these fearful sellers (if bargains they truly be). This week, investors seem to be adopting more of a wait-and-see than a buy-buy-buy attitude on Wall Street's least favorite sons. Each and every one of the companies on today's list gets a shrug and a three-star rating. No more, no less. So which of these firms shall we profile?

You're probably expecting me to focus on Polycom. After all, it's a leader in an emerging technology -- videoconferencing -- and a recommendation of the Fool's growth-stock-seeking Motley Fool Rule Breakers newsletter. Logical choice. But I've written about Polycom twice already in as many months. And to be honest, you'll learn more about this company than I can tell you here by simply signing up for a free, 30-day trial of Rule Breakers, and reading why we think it will trounce the market's returns in years to come.

Rather than write about Polycom, I want to take a look at KMG Chemicals, a specialist in the unsexy industries of herbicides, livestock larvicides, and wood preservatives. An investor would have to travel long and far to find a less exciting company than this one -- and with most Wall Street analysts fearful of venturing far from New York City, I have a sneaking suspicion this may mean there's hidden value in the mix at KMG Chemicals. Let's see why our players think so too, as we examine ...

The bull case for KMG Chemicals

• CAPS All-Star stillwater9999 echoes my thoughts almost exactly: "Creosote and Cattle Ear Tags - you have to love these sexy products!" adding "Also have to love the large insider ownership."
• 227morph provides us a bit more detail on what KMG does: "Still unknown to most, KMG has a monopoly on wood treated utility poles in the entire US and [is] also a major player in other parts of the world mainly South America. KMG also is one of only three companies throughout the entire world that manufactures creosote and penta treated crossties used by the railroads."
• Nuts2Bolts summarizes: "Super strong fundamentals, dominant in its sectors, very little debt - what's not to like?!"

The comment above that most grabs my attention is stillwater9999's mention of insider ownership. Taking a closer look, I must agree: With the executive chairman owning nearly 40% of shares outstanding, it's likely that management's interests will be closely aligned with those of shareholders at this company.

Valuation-wise, it's less obvious that this firm is a winner. For one thing, KMG has very little free cash flow on offer. I'd expect better than that from a company that's "dominant in its sectors." However, KMG has GAAP earnings aplenty. The trailing P/E sits at 22, and analysts expect continued strong earnings growth (earnings doubled last year) to drive that number down to about 12 by this time next year. Meanwhile, earnings growth is expected to average 15% annually over the next five years. If KMG proves able to recover from last week's "earnings miss" and prove the analysts right about future growth, then this stock could well turn out to be a winner.

Of course, the aim of this column isn't just to tell you what I think about KMG Chemicals -- or even what the other CAPS players are saying. We also want to hear your thoughts on this, or any other company on today's list. If you've got an opinion, we've got a place to voice it.

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