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Securities trading during the month of August can be characterized by continued extraordinary price volatility as stock prices see-sawed back and forth. Interestingly, the market has weathered considerable negativity over the past month with lingering solvency concerns over the mega U.S. mortgage lenders Fannie May and Freddie Mac as well as the uncertain affairs of Lehman Brothers, U.S. banks, etc. Nonetheless, the market continues to confound investors as frenetic trading volumes and price volatility seem to be masking a resurgent U.S. dollar, relatively low American interest rates, a +3.3% second quarter U.S. GDP growth rate and generally decent corporate profits. For many investors the glass appears to be half empty as rampant negative psychology appears to have permeated the marketplace.
As fundamental analysts and contrarian investors we are starting to uncover an increasing number of significantly undervalued equities. However, largely due to widespread investor fear and a drive toward liquidity these stocks drift even lower despite improving prospects. At times these price declines make little sense. For instance, we offer an example of one of our ABC Funds shareholdings, Jo-Ann Stores. Jo-Ann Stores, the largest U.S. retailer of fabrics, is a solid company with improving sales, financials, and a tangible book value of $18.00. However in the space of several months its share price plunged from $24 last fall to $9.03 on January 16, 2008. We were most perplexed since president and CEO Darrell Webb had been doing an excellent job of running this $2 billion sales company in a very difficult retail environment. Upon deeper analysis we found nothing fundamentally wrong with the company and couldn’t really explain the drastic price decline. Now, seven months later and after two excellent quarterly reports as well as improved operating guidance the shares are trading at over $25. Now, considering the capital appreciation from $9 to $25 the question is: what has changed since the January 2008 $9.03 low? Nothing really. Unfortunately, Jo-Ann Stores is a typical example of the extraordinary trading volatility in the marketplace.
The fact is investors are in a “show me” mode. Furthermore with the incessant concern of “other shoes to drop” in the U.S sub prime mortgage area, many investors, bankers and institutions have become gun-shy. Not helping matters is the considerable speculation on the health of numerous hedge funds in that a number of these capital pools have imploded and are closing shop. This situation, additionally, has enervated the securities markets.
While it may sound trite, the present financial uncertainty, fear and rush toward investment liquidity is producing a growing number of attractive opportunities. The daily price volatility due to investor angst is also providing huge trading swings and excellent investment entry points for those with the necessary stamina and patience. We are constantly surprised how certain dirt-cheap stocks have drifted lower and lower despite improving fundamentals. Overall, it is our belief that negative market psychology has overtaken long term fundamental analysis. This will change.
Once again we believe that the overlooked value market while currently languishing presents excellent, long term value. Many pubic companies continue to trade at significant discounts to their net asset or replacement values. As a result we continue to expect more and more company share buybacks, mergers, acquisitions and takeovers. Although we are not certain what the necessary catalyst will be to spur on a significant upturn in value stocks we remain optimistic and patient. Not unexpectedly, we look to the Jo-Ann Stores example of investment patience producing long term financial rewards.
Thank you,
Irwin A. Michael, CFA
