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Now Is a Fantastic Time to Be a Value Investor

Since reaching October 2007's highs, the Dow Jones Industrial Average is down a massive 40%. With its 44% drop, the S&P 500 is even worse; in fact, if you'd held an S&P 500 index fund for the last 10 years, your returns would be flat! But the flip side to this story is that stock valuations are cheaper than we've seen in a decade -- and even Warren Buffett is buying American stocks for his personal portfolio.

Many individual stocks have fared far worse than the broad-market indices. To take some extreme examples, industry giants Citigroup (NYSE: C  ) and Morgan Stanley (NYSE: MS  ) , brought down by excesses in financial markets, are down more than 80% from last year's highs. But many extremely strong franchises have been dragged down by nothing more than the fear and panic surrounding the markets.

Which means ...
Now is a fantastic time to be a value investor.

Really. With stocks so widely sold off, and with pessimism so pervasive, you should make like a bargain shopper and pick out a few of the values that seem to be screaming, "Buy me!"

Of course, it is always difficult to believe that stocks could possibly go up when every day they seem to edge lower. We're human, after all, and a constant downward spiral brings an overwhelming sense of loss. It also makes us remember prior market crashes, like the Nasdaq bubble at the beginning of this decade or the Black Monday Crash of '87.

But if those or the recent memories make you want to shun the market, sell your stocks, and move to "safer" investments, let me be blunt: That's a recipe for disaster. The market crashes I alluded to before -- dot-coms and Black Monday -- were actually fantastic times to be net buyers of stocks. So although it may seem tough in today's chaos, now's the time to go shopping, because there are many superior companies trading at discount prices.

Blue-chip bargains
I encourage investors to look long and hard at blue-chip market leaders such as Colgate-Palmolive (NYSE: CL  ) and Johnson & Johnson (NYSE: JNJ  ) . And why not pick up some of Buffet's Berkshire Hathaway (NYSE: BRK-B  ) , too? Let's look at each of these in more depth.

Colgate-Palmolive is a wonderfully profitable consumer staple, selling everyday products at relatively cheap price points. Its star products fall under the Colgate dental hygiene brands, which command the biggest market share in the world. Better yet, few people will change toothpaste brands based on cost. The stock is down more than 20%; coincidentally, that puts it about 20% below my valuation. Best of all, the company pays a solid dividend in excess of 2.6%.

Want a slightly better dividend, and another financially secure company trading at a discount? J&J might be the stock for you. It pays a 3.1% dividend, and the company is the leader in many health-care segments, including over-the-counter medicines, medical devices, and diagnostics. Its pharmaceutical division is suffering from some patent expirations, but it still remains hugely profitable. Finally, its consumer division, like Colgate, provides steady cash flows. The company is using those funds to buy back shares and build shareholder value.

Recommending Berkshire Hathaway seems like a copout, because the company appears to be a no-brainer during most markets. But today, the shares are off 38% from their 52-week high, even though it hardly seems likely that Buffett's empire is worth 38% less than it was a year ago. Sure, hurricanes Gustav and Ike took a bite out of the insurance subsidiaries, and the huge investment portfolio has suffered with the market downturn. Still, this is a company with a fortress-like balance sheet, and one of the few that can seriously benefit from the credit crunch and the big "for sale" sign on many prime assets.

Two more options
I'm a big fan of the energy industry right now, because I think it holds some serious bargains. Share prices almost always follow the short-term price of the commodity, while value, for the best names, remains largely unchanged. Today I'll highlight Chesapeake Energy (NYSE: CHK  ) and Canadian Natural Resources (NYSE: CNQ  )

Natural gas company Chesapeake seems to have a love/hate relationship with the market. Wall Street appears to love Chesapeake when it's growing production and reserves while increasing debt and shares outstanding. But now that the company is reducing debt by selling developed assets, and slowing its growth rate to a more manageable level, the hate has set in. Based on recent transactions, the company's reserves and acreage are worth three times the current stock price.

Canadian Natural Resources is one of Canada's largest natural gas producers, but its Horizon oil sands project earns the company a spot on my list. Oil sands have a reserve life of more than 40 years, and phase one (of several planned) of the Horizon project is set to begin production in 2009, before reaching capacity in 2010. The company has shown a very disciplined approach to managing its cash and capital projects. By my estimate, you're buying a dollar for less than $0.50 with these shares.

Despite all these tempting examples, today I still see values even better than the ones I just mentioned.

More values ...
The historical outperformance of value investing should give you the confidence to buy in the face of pessimism. Buying superior companies at excellent prices -- and keeping an eye on the long term -- is how we advise investors at Motley Fool Inside Value.

In the most recent issue of Inside Value, I recommended two companies and ranked our top five existing recommendations for new money. As a co-advisor of the service, I invite you to take a sneak peek with a 30-day free trial. There's no obligation to buy -- and while you're there, don't forget to check out all of our past picks, research, and back issues.

This article was originally published on June 27, 2008. It has been updated.

Philip Durell , co-advisor of Motley Fool Inside Value, owns shares in Berkshire Hathaway and Chesapeake Energy, which are also Inside Value recommendations. Berkshire Hathaway is also a Stock Advisor choice. Johnson & Johnson is an Income Investor pick. The Fool owns shares of Berkshire Hathaway. The Fool has a disclosure policy.

Read/Post Comments (6) | Recommend This Article (16)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On November 18, 2008, at 12:00 PM, jhatlarge wrote:

    MF are a bunch of marketing hypers ... the MF is down 50% on its star services... MF services = investment suicide.

  • Report this Comment On November 18, 2008, at 12:04 PM, TLassen wrote:

    Philip, great article, very good points. Maybe we should just keep a low profile when it comes to the points of value investing. You can not convince the 'get rich quick traders' the merits of value investing. So why bother.

    I have used the principles of value investing for 18 years now and will continue to do so even in this tough market. One you understand the importance of estimating intrinsic values and only buying when companies are trading safely below this value, you will come out ahead long-term. I personally use a discounted Free Cash Flow method combined with dividend ratios that rarely fails. One point of finding intrinsic values, be careful not to be trapped into 'value companies' in sectors that are being sold off due to the present business cycle. We are heading towards, or are in a recession now, so focus on Utilies, Health Care and Consumer Staple companies when looking for value companies. This is not the right time to look for Energy, Materials, Industrials and Tech sector companies, even though their respective valuations may be appear good. They will continue to be under pressure as the general economy retracts. There will be much better opportunities in the future for buying companies in those sectors.

  • Report this Comment On November 19, 2008, at 12:16 AM, Usnzth wrote:

    Who was it that said, “Buy when there is blood in the streets”? I can’t remember the name, but I sure remember that line. Six months ago, there was sweat in the streets – as in nervous perspiration. Two months ago it got worse. But gutsy folks were hanging on. Now it’s a bloodbath. Companies are dying. All the news is negative. But Buffett is really buying. If you are smarter than he is, show me the money. Here is the key word: Contra-cyclical. Buy when everyone is selling. Sell when everyone is buying. When the buying really starts, it is going to go with a rush. Better to already be on the train.


  • Report this Comment On November 19, 2008, at 12:18 AM, Usnzth wrote:

    Hey, TLassen. I would love to see a more detailed description of how you estimate intrinsic values.


  • Report this Comment On November 19, 2008, at 8:38 AM, TLassen wrote:


    Go on my CAPS. Have a couple of examples

  • Report this Comment On November 19, 2008, at 11:04 AM, SteveTheInvestor wrote:

    Colgate is reasonably priced now, but hardly what I would call a great value. It's a widow/orphan stock with a div. yield that is below 3% and a PEG of 1.5 or thereabouts. Hardly a reason to get excited.

    JNJ is only slightly more of a value than CL, but not much. My buy price on JNJ has been $62 for some time. Personally though, it's already about 10% of my portfolio, so unless it goes below $55, I won't buy any more.

    Berkshire..... I just don't know. I've been listening to people here claim it was a buy since it was $4800.00 (for B shares). Now it's about $3000.00. I've been waiting for this to happen. It's only now getting cheap enough to make me want to pay attention. I'm still not completely comfortable with it, but I certainly feel MORE comfortable with it. Not sure yet that I will buy because we are still in a market that is selling everything. It will go down, regardless of its value. Guess I could buy some and hope that financial world doesn't collapse in on itself. We'll see I guess.

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