Since reaching its highs in October 2007, 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 past 10 years, your returns would be slightly negative! 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 indexes. To take some extreme examples, former industry giants Merrill Lynch (NYSE: MER ) and National City (NYSE: NCC ) , brought down by excesses in financial markets, were burned so badly that they're now being acquired. Each has lost 80% in the past year. 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.
I encourage investors to look long and hard at blue-chip market leaders such as Colgate-Palmolive and Johnson & Johnson. And why not check out Warren Buffett's Berkshire Hathaway (NYSE: BRK-A ) , 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 of 2.5%.
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 37% from their 52-week high, even though it hardly seems likely that Buffett's empire is worth 37% 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.
Buffett has been hoarding cash for years, which he is now putting to good use, adding shares of conservative bank U.S. Bancorp (NYSE: USB ) , preferred stock in some harder-hit-but-resilient companies such as Goldman Sachs (NYSE: GS ) and General Electric (NYSE: GE ) , as well as a number of other opportunities indirectly related to the financial crisis. Berkshire now owns more than $4 billion worth of oil giant ConocoPhillips (NYSE: COP ) , for example.
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 and Canadian Natural Resources.
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.
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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 a Stock Advisor choice. Johnson & Johnson and U.S. Bancorp are Income Investor picks. The Fool owns shares of Berkshire Hathaway and has a disclosure policy.