STREET WISE By Amey Stone
DAVID DREMAN, THE QUINTESSENTIAL VALUE INVESTOR
It would have been a nice move to buy Pfizer (PFE) in 1993, when Wall Street was in a dither about the Clintons' efforts to reform health care. You would have made about seven times your money had you bought back then -- earning the majority of those returns well before the company's anti-impotence drug Viagra hit the scene.
Buying Citicorp (CCI) back in 1990 in the midst of a banking crisis would have been an equally smooth move. By now, your position would have grown to about 10 times your original investment. Again, you would have earned most of that gain before Citi's merger with Travelers was announced.
The lesson? You don't make this kind of money by buying hot stocks that are in the news. You make it by investing long term in sound companies when they are out of favor, says David Dreman, famed value manager and author of Contrarian Investment Strategies: The Next Generation (Simon & Schuster, $25). "The most exciting stocks are almost always overpriced," he says.
In his book, Dreman suggests five ways to find undervalued stocks: Look for a low price-to-earnings ratio, a low price-to-book ratio, low price-to-cash flow, a high yield, and low stock prices relative to the industry. The subtitle of his new book says it all: Beat the market by going against the crowd.
Dreman manages about $6 billion using a value-oriented style. About half of those assets are in private accounts, the other half in the Kemper-Dreman High Return Fund (KDHAX). The fund has earned 31% annually for the past three years, beating the S&P 500 during that time. Those returns are well above average, but the fund takes only average risks, according to Morningstar. Sold through brokers, the fund comes with a 5.75% up-front sales charge.
Buying companies that are going through tough times doesn't mean buying bad companies. "We don't like dogs," says Dreman. "All our stocks are financially strong, have high yields, and earnings growth faster than the market."
Today that philosophy is leading him to battered tobacco stocks, such as Philip Morris (MO), his top holding. Big MO fell nearly 5% on June 10 after a Florida jury ruled against Brown & Williamson Tobacco in a case involving the death of a smoker. Philip Morris fell 1 7/8, to 38 3/8. RJR Nabisco Holdings (RN), another Dreman holding, was off 7/8, to 26, on June 10. "Companies get knocked down too much," says Dreman, who adds that Philip Morris' assets, excluding tobacco, are worth about $50 to $60 a share. Essentially, the tobacco business, which is highly profitable, has a negative value in the stock market currently, Dreman points out.
Oil is another downtrodden sector, albeit not quite as controversial as tobacco, that Dreman favors. "Everybody thinks the outlook is terrible now," says Dreman, who owns Amoco (AN), Atlantic Richfield (ARC), and Texaco (TX), as well as some smaller oil services companies. "Oil stocks are really at half the valuation of the S&P," Dreman adds. "If the market turns down, they should go down much less."
Surprisingly, Dreman also thinks some financial stocks are "still pretty cheap relative to the market." Freddie Mac (FRE), Fannie Mae (FNM), PNC Bank (PNC), and Fleet Financial Group (FLT) are a few of his favorites there. "Bank dividends are about 50% more than the S&P," he points out. "Oil dividends are even higher." Those dividends should help soften the blow if there is a bear market, he feels.
Dreman doesn't invest this way because he thinks a bear market is imminent, however. "It is our strategy for any market -- period," he says. He thinks some sectors of the market (such as IPOs and Internet stocks)are overvalued, but says he would stick with his contrarian style anyway. When you have a track record like his, why not?
Amey Stone is an associate editor of Business Week Online
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