We can screen stocks for “upside potential” through the PEG ratio, which takes into account both a stock’s price-to-earnings multiple and analyst expectations for future growth (we emphasize that this is only a measure of upside potential because analyst forecasts aren’t always correct, though they are at least one way to take growth into account). Since we track 13F filings from hundreds of hedge funds as part o our work researching investment strategies (for example, we have found that the most popular small cap stocks among hedge funds earn an average excess return of 18 percentage points per year), we can also look through individual managers’ filings for ideas with high upside potential which investors may want to research further. Here are five picks from Tiger Cub John Griffin’s Blue Ridge Capital’s 13F for the first quarter of 2013 which feature five-year PEG ratios less than 1 (or see the full list of the fund’s stock picks).
Blue Ridge trimmed its stake in American International Group Inc (NYSE:AIG) by 17% in Q1, but still closed March with 8.7 million shares in its portfolio. AIG lost its place as the most popular stock among hedge funds to Apple between January and March, but remained in the top three (check out the full top ten list). The insurer has outperformed the market over the last year but is still valued at a significant discount to book with a P/B ratio of 0.7, and given analyst expectations for the next several years its PEG ratio is just below 1.
According to the 13F, Blue Ridge initiated a position of 4.7 million shares in Citigroup Inc (NYSE:C) in the first quarter of this year. Citigroup Inc (NYSE:C) reported a 30% increase in net income in the first quarter of 2013 versus a year earlier, and while we’d certainly expect growth rates to cool over time analyst expectations suggest that future earnings will be high enough to leave the stock undervalued. In addition, we’d note that as with AIG Citigroup Inc (NYSE:C)’s P/B ratio (of 0.8) suggests that the current market stock price represents a discount to book value.
Griffin was buying Wyndham Worldwide Corporation (NYSE:WYN) during the first quarter as well. Hotel stocks (though we would note that Wyndham includes a vacation ownership business as well) are generally priced at fairly high trailing earnings multiples in the current market, and Wyndham is no exception with a P/E of 21 on that basis. While analysts are optimistic about its future as well, earnings were down in its most recent quarter compared to the same period in the previous year, and even though revenue was rising we would still be cautious as a result.
We would avoid Liberty Global as well as Wyndham, and in the case of Owens Corning we don’t find the valuation that attractive unless the housing market is in fact strong enough for the company to hit its targets- and there might be better options to play that macro thesis. Citigroup Inc (NYSE:C) and AIG are certainly cheap in book terms, and the megabank can also offer strong performance numbers in recent reports; we’d be interested in learning more about these companies as potential value options and comparing them to their peers.
Disclosure: I own no shares of any stocks mentioned in this article.
