Floyd says any investor can use a simple stock screener to help identify potential bargains. Reviewing cheap stocks for companies with profits, cash flow, and the ability to make debt payments is an excellent way to find the next portfolio superstar.

Using this strategy, Floyd says Qwest Communications (NYSE: Q), American Shared Hospital Services (AMEX: AMS), 3COM Corp (Nasdaq: COMS) are good contrarian profit plays…

Protecting investment principal and your profits should be a concern in any market, much less a bear market. Contrarian investors looking for deep discounted value can find themselves walking a tightrope between “buying on the cheap,” and “buying garbage.” And in the down markets like we’ve been in, it can be hard to distinguish between the two.

Nevertheless, keeping a portion of your portfolio in deep value and contrarian plays can be hugely profitable. The possible rewards of double-digit plus returns from these “portfolio superstars” are the stuff cocktail-party stories are made of.

The last year has been painful for the market. Record numbers of stocks are in the gutter, and cheap stocks seem to be everywhere. Many of these shares are selling at a discount not because of poor performance, but simply because of negative investor psychology. Here’s a strategy for finding these bargains, and separating them from the companies on their deathbed.

Screen for Stocks… Like a Professional

I like to use an ordinary stock screener, but if you have one you like, use whatever you’re comfortable with. If you don’t use one on a regular basis, try Yahoo’s stock screener. These are great tools to start off a potential investment search that many professionals wouldn’t be caught without.

Open up your screener, and let’s find some deep value stocks…

We want stocks on the major indexes that are trading like penny stocks (stocks trading below $5 a share). At Investment U we generally don’t advise investors to purchase penny stocks, because there are a lot of good reasons these companies are priced so low. However, the market is not a rational system. It behaves irrationally and over-reacts. This has created some exceptions for the contrarian investor…

Set your first criteria on the screener under “Share Performance” for “Current Price” with a condition of “<=” and a value of “$5.” (Companies trading less than or equal to $5.00 a share.)

Next, we will look at valuation. There are a number of metrics we could use like price-to-earnings (PE), price-to-cash flow or price-to-book value. However, today I want to look at price to sales (P/S) ratio. By screening for these super cheap firms trading at less than one times sales you are paying less than $1.00 for a $1.00 in sales.

Set your second Criteria under “Valuation” to “P/S” with a condition of “<=” and a value of “1.” (Companies with a P/S ratio of less than 1.)

Hmm, what do we find?

We find a mix of beaten-down companies including financials, media firms, tech firms, auto related firms, a couple of airlines and even some consumer names. The screener returned over 200 stocks from this simple two-factor screening. I find that by looking at the largest companies you can find the ones best suited to weather economic downturns.

In reviewing the list, I am looking to identify companies with profits, cash flow and the ability to continue to make debt payments.

Here are three of the firms that caught my attention.

Qwest Communications (NYSE: Q) is trading at $3.85. This telecom firm gets no respect. It is the product of the ill-fated merger of long distance provider Qwest and the old regional Bell firm US West. As the firm loaded up on debt for the merger, the business swiftly changed. It has been plagued by the cancellation of landlines. In addition, its core business is shrinking. If its customer base stabilizes, and if it’s able to leverage its network, its debt will go down. Without a mountain of debt to dig out from, shareholders should see profits hitting the bottom line, and their wallets.

3COM Corp (Nasdaq: COMS) is trading at $2.20. Last year, the Chinese and Bain Capital tried to take this computer-networking firm private. The Pentagon blocked the sale because of national security concerns. Why? The technology this firm controls is vital to national security in everything from handheld devices to networking applications. Security personnel are currently watching over the Olympic Games via IP-based surveillance cameras, thanks to networking provided by 3Com. Quarterly earnings at 3Com are improving, and the share price action is more the result of the broken leveraged buyout than the state of the company.

American Shared Hospital Services (AMEX: AMS) is trading at $2.17. This firm helps hospitals acquire the Gamma Knife equipment used in advanced radio surgical and radiation therapy services. This company was known for paying a healthy dividend. But late last year management decided to cut the dividend to reinvest the cash in growing the company. Shares were punished as income investors fled. The AMS Chairman, Ernest Bates MD, is bullish on the future saying in the last company conference call that earnings results “show how our strategy to use AMS’ creative financing solutions to make proton beam radiation therapy (PBRT) systems, Leksell Gamma Knife PerfexionTM systems, IGRT systems and other next-generation devices for radiation oncology delivery available and affordable to our clinical partners and their patients has put us on the path for long-term growth.”

With a little research you can find that this current market correction is just the opportunity that deep value and contrarian investors like myself love to see. So fire up the stock screener and find your portfolio’s next “superstar.”

Source: Finding Deep Value Plays… and Your Portfolio’s Next Superstar

Why exactly has this happened? Especially when commodity prices are soaring pretty much across the board. Aren’t the explorers supposed to show leverage to the underlying resource prices to which they seek?

History demonstrates typical long term leverage with exploration stocks. If gold goes up 20% you can reasonably expect the gold shares to perform at a multiple of that figure. At the present times the “juniors” aren’t even keeping up with rising commodity prices.

The ongoing global credit crunch is a primary reason for this disparity. The appetite for speculation has waned. Global players have sold off winning positions in order to create liquidity. Some suggest that hedge funds may be shorting the explorers. Whatever the reasons are, the anomaly won’t persist indefinitely.

Either commodity prices must fall or junior miners must rise and close the gap. I don’t see commodity prices falling significantly from present levels. They stand as protection against currency debasement which happens to be a growth industry these days. The US dollar remains at the epicenter.

Opportunities abound. Let’s look at a simple example in a company called Amera Resources (AMS:Toronto).

This portrayal is for demonstration purposes only. I personally own this stock. It is not in the Resource Windfall Speculator portfolio and this is not a buy recommendation.

That’s an ugly chart. The stock is going down on exceedingly low volume (15,000 shares this day). Amera’s 52 week high is $.41. It’s near its 52 week low of $.11. Amera has 34.5 million shares outstanding. At $.14 Canadian, that gives them an overall market cap of a miniscule $4.83 million.

Surely something must be fundamentally flawed with this company. But that’s not the case. They have money, excellent management and exceedingly promising projects in mining friendly South American countries. I wrote a series some time back on “The Perfect Resource Exploration Stock”: The Perfect Resource Exploration Stock, The Perfect Resource Exploration Stock: Part II, The Perfect Resource Exploration Stock Part 3: Anatomy of a Ten-Bagger.Amera fits the majority of the qualifications for such a title.

Buying high quality speculative stocks with a market cap of $5-$10 million is pretty much a “no brainer” from the perspective of savvy resource investors. It’s called ultra cheap lottery tickets. Say they prove up an asset valued at $300 million, for example. That would be 60X the current market cap level.

There are zero assurances of such an event transpiring. That’s why it’s called speculation.

Lots of market participants would be much more comfortable buying stocks at annual highs instead of annual lows. Low prices freak them out and they end up capitulating. Capitulation is pretty much rampant these days. I believe that’s what shows clearly on the Amera chart.

When the last sellers give up their shares the market then becomes dominated by buyers. The bottom is in. The market then heads back towards the next extreme. The fear/greed cycle is inherent within all markets. All the more so in the junior explorers. Some companies are selling at prices close to their cash on hand value.

Summers are typically dreary times for the juniors as well. Buyers are more interested in their tans and exotic travel than following stocks. Will the sector go even lower during this vulnerable time? It’s entirely possible.

Still, the downside seems dwarfed by the upside potential. It’s likely to be an historic opportunity for accumulation. What’s your long term view on commodity prices?

Invest Resourcefully,

Rusty

P.S. To let me know what you thought of today’s article, send an e-mail to: feedback@investorsdailyedge.com.

Source: They’re Giving Away Resource Stocks