Top Stocks to Buy Today

"The stock market is filled with individuals who know the price of everything, but the value of nothing."
-- Philip Fisher

Despite the recent gains in the market, current economic data suggests we shouldn't expect a full recovery anytime too soon. So it may be fair to ask ourselves: How can we avoid the mistakes that got us here, and how can we find the top stocks to buy today?

Consider this
The mistakes that led to this downturn are reminiscent of the speculative frenzy known as the Dutch Tulip Craze. In 1636, Dutch citizens found themselves caught up in a tulip rampage that led to skyrocketing orders and prices that grew by as much as 100% per week.

Eventually, one tulip bulb was selling for the equivalent of thousands of modern-day dollars! The market became overbought, and the frenzy bottomed. By 1637, the price of tulips was less than 1% of what it had been before the crash. Value was an afterthought to the tulip "day traders" who sought to profit from irrationally soaring prices.

Quickly fast-forward to the dot-com bust around 2002. The growth of Internet companies and an overinvestment in information technology caused the Nasdaq to rise more than 600% from 1994 to early 2000. If you were alive or breathing in the last 10 years, surely you remember what happened next:

  • In 18 short months, approximately $5 trillion was wiped out of the value of technology stocks.
  • Silicon Valley trendsetters like Yahoo! (Nasdaq: YHOO  ) and Priceline.com (Nasdaq: PCLN  ) experienced price depreciations of more than 50%.

As with the tulips, it seemed as though everyone was confident in the price of the next "big" stock. The classic example of the overhyped company of the time was Pets.com. After trading for more than $14 per share, it liquidated in less than 270 days at $0.22 per share. Everyone supposedly knew the right price -- but what was the value?

OK, let's talk 2008
Call last year what you want. The housing horror. The derivative debacle. The commodity crisis. The securitization scare. There are too many explanations for the collapse to isolate only one aspect.

For the sake of argument, I'll arbitrarily choose crude oil to illustrate my point. The Commodity Futures Trading Commission recently announced it will release a report suggesting speculators played a role in driving last year's wild swings in oil prices, which spiked at $145 a barrel for crude in July before collapsing to $33 a barrel by December, representing a 77% decline in value over a six-month period.

Weatherford International (NYSE: WFT  ) and Baker Hughes (NYSE: BHI  ) , two of the larger oil and gas equipment and service providers, lost more than 50% of their value from July 2008 to November 2008 ... and have gone on to approximately double along with the recent crude oil rally. I don't mean to sound repetitive here, but from these numbers, it appears that many investors didn't evaluate these companies' competitive positions, but were instead making bets on oil prices.

What, if anything, have we learned?
We can be certain that there will always be ups and downs, booms and busts, good years and bad. So what can we do? One philosophy is to invest in companies with great competitive advantages, clean balance sheets, and a history of success in their given industries.

For example, investing in Southern Copper (NYSE: PCU  ) , a low-debt company that produces precious metals at a time when gold is hitting record highs, and which has returns on equity of about 15%, would certainly seem like a good idea. But at more than 55 times earnings and an estimated 0% growth over the next five years, does it provide you with much value today?

Similarly, Kinder Morgan Energy Partners (NYSE: KMP  ) , one of the largest pipeline transporters in North America -- a company that has had returns on equity above 20% in five of the last six years -- also seems like a solid investment. With more than 14,300 miles of natural gas transmission pipelines and 60 storage terminals, Kinder Morgan earns consistent income because of its fee-based services.

But it's trading at 49 times earnings and is selling for almost three times its book value. Does that provide value to someone buying shares today?

It's hard to know the answers. That's why we focus not only on exciting companies, but on ones that are exuding value, as well.

Here's a place to start
In both bear and bull markets, value investing has provided people with a logical and methodical approach to investing. The general ideas: Don't speculate on questionable growth potential or companies with debatable revenue streams. Look at companies that may be trading well below their intrinsic value for unfounded reasons, seem cheap compared with their industry, and have strong records of returning capital to their shareholders.

Here a just a few companies that fit the bill now:

Company

% Below 12-Month High

Price-to-Earnings Ratio

Return on Equity

Cornerstone Therapeutics

52%

4.8

97%

Star Bulk Carriers

37%

1.9

19%

K-V Pharmaceutical (NYSE: KV-A  )

77%

3.1

23%

Data from Capital IQ, a division of Standard & Poor's.

Granted, in some cases these companies' P/Es are artificially low based on last year's higher earnings. But even if earnings decline, they're still cheap.

More ideas
Our Motley Fool Inside Value team seeks out companies that not only have great competitive advantages (Southern Copper and Kinder Morgan, for example), but that also trade at bargain prices. If you're looking for more cheap stock ideas, you can click here for a free stock report.

Fool contributor Jordan DiPietro doesn't own any of the shares mentioned above. Priceline.com is a Motley Fool Stock Advisor recommendation. The Fool's disclosure policy recently redeemed its change jar and made $87. Now that's value.


Read/Post Comments (4) | Recommend This Article (12)

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 October 20, 2009, at 10:51 AM, jjjesfil wrote:

    Jordan; please do your research on KMP and MLPs in general. PE is not the relevant ratio for an investment that is based on tax free returns based on free cash flow. I can understand why you wouldn't own KMP based on a simple PE analysis...

  • Report this Comment On October 20, 2009, at 11:21 AM, TMFPhillyDot wrote:

    @jjjesfil

    You are correct; P/E is not the best metric to use for an MLP. However, I am quite familiar KMP -- I think they are a great company, which isn't saying much -- they are the obvious darling of the energy MLP's. I just think they are overpriced right now, sitting at or just above their 52 week high. Great company, just a bit too expensive for my blood.

    Thanks for the comment.

    -Jordan(TMFPhillyDot)

  • Report this Comment On October 20, 2009, at 1:14 PM, jjjesfil wrote:

    Good point; I own 4 other similar MLPs all yielding more and look the same at face value. Maybe KMP is hyped due to Cramer? I might sell and swap into another....

  • Report this Comment On November 02, 2009, at 5:18 PM, j8888 wrote:

    kv-a is cheap with soon to be approved drugs this will double quickly and provide lasting results

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