A few days back, I outlined a little plan that value investors can use to find safe doubles. It's a time-tested method that employs the simple math of multiple compression -- and expansion -- to help guide investors toward returns in the 18% range. Those are great, but sometimes Mr. Market goes even further and offers us the opportunity of a lifetime: The quick triple. Today, I thought I'd share a couple of methods I've used to earn some relatively easy triples.
First, take a deep breath. As you can guess, a stock that triples in value over a year or two is a bit of a spicy meatball, so you need to handle this advice with great care. That said, the three triples I scored over the past year all came from tried-and-true value methods. They didn't require glitz, glamour, or secret information -- just a bit of work, a little luck, and the guts to act on the obvious.
The mother lode in plain sight
This type of triple play requires three key elements:
- A volatile stock.
- Some short-term bad news.
- A somewhat complex situation that Mr. Market completely misunderstands.
The textbook example of this value triple is ceramics specialist Ceradyne (NASDAQ:CRDN). My colleague Chuck Saletta also mentioned it last month, noting that some of our own Fool board posters had been hashing over the stock near the lows. Chuck didn't explain why Ceradyne was a triple, but the clues are in some of those very board posts, many of which didn't get to the meat of the story.
What really happened to Ceradyne early last year was simple: People freaked out. The U.S. government asked for ceramic armor plates to be made to a higher specification, which meant that plates intended to be shipped in earlier quarters would instead have to wait for later quarters. This was purely a timing issue. The contracts were never in question, and better yet, the higher-specification plates would actually be better for Ceradyne's top and bottom line.
Moreover, anyone paying close attention would have noticed (as I did) that the higher-specification plates would require more of the raw material that Ceradyne controlled via its recent acquisition of ESK Ceramics. That meant Ceradyne would generate greater profits, even from higher-spec contracts that would go to other firms such as Armor Holdings (NYSE:AH).
But Mr. Market, and many hand-wringers, didn't concentrate on the obvious. Instead, negativity ruled. On some boards, I saw Internet posters bewailing threats from "competitors" like DHB Industries (AMEX:DHB). That's a completely ludicrous notion, since DHB produces the soft armor jackets that carry Ceradyne's plates.
The stock dropped through the low 20s. I kept my shares, but played the prevailing winds and bought put options. When it bottomed around $18, I sold my puts and rolled the winnings into more common stock. Those shares have tripled for me since, but only because I invested in the obvious.
These aren't isolated instances. I found several potential triples in tech this year; Red Hat (NYSE:RHAT) was one I didn't buy. (D'oh!) Fools, money doesn't come any easier than that.
More equals more
A similar type of triple play doesn't require a big bad-news catalyst. Instead, this is a play on a long, unglamorous turnaround type, one which benefits investors who are able to see obvious operational improvements hidden in plain sight. The three requirements are:
- A complete "has-been."
- Margin and other operational improvement that Mr. Market doesn't notice or believe.
- Reasonable to fast top-line growth.
The textbook example of this type of triple is Guess? (NYSE:GES), which has almost reached triple territory for me.
The story here was even simpler than at Ceradyne. While everyone in the retail field was rushing back into Abercrombie & Fitch (NYSE:ANF) or ogling jeanswear upstarts like True Religion, Guess? was getting more profitable by the minute.
Did anyone notice? Not so much. Even after quarter after quarter of major earnings blowouts, Guess? coverage was characterized mostly by surprise and acid-wash jokes. A moderate strengthening of the still-accelerating top line finally brought the market around, lifting shares from the past year's low of $12.50 to nearly $40 today.
You don't need to look to glamour sectors like fashion and computers. Something as simple as CKE Restaurants (NYSE:CKR) has been a three-year triple for those who saw the potential margin story. (I know, because I'm one who missed it.)
Foolish bottom line
Let me repeat: Triples, or the doubles I talked about before, are not exclusive to the hot growers. In fact, the easiest, safest multi-baggers are found via old-fashioned value investing. By putting your money into stocks that others don't see, or don't understand, you've already beaten the market's biggest drain on your returns: the popularity premium.
But it takes some time and effort to find these kinds of stocks, and in the case of type one, it takes a good measure of guts. Quite frankly, a lot of people would rather just buy the glamour that everyone else loves, and hope for the best. Their animosity, or ambivalence, is your opportunity.
That's why we always dig for cheap, unloved stocks at Motley Fool Inside Value. If you'd like to see more of the strategies we use to buy with less risk, while reserving our right to get the doubles and triples most people think come only from growth stocks, a free trial of Inside Value is just a click away.
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Seth Jayson is pretty sure he missed his next triple by waiting too long for the buy. At the time of publication, he had shares of Ceradyne and Guess?, but had no positions in any other firm mentioned. View his stock holdings and Fool profile here. Fool rules are here.
