"Among contrarians, one advisors stands out among all others: David Dreman," notes John Reese, editor of the Validea newsletter.
His advisory service selects stocks based on the strategies of time-tested investors, he reviews Dreman's approach and offers one stock that matches the contrarian's investment profile -- specialty metals firm, Allegheny Technologies (NYSE: ATI).
"Dreman, perhaps more than any other guru I follow, is a student of investor psychology. And at the core of his research is the belief that investors tend to overvalue the 'best' stocks -- those 'hot' stocks everyone seems to be buying -- and undervalue the 'worst' stocks -- those that people are avoiding like the plague.
"In addition, he also believed that the market was driven largely by how investors reacted to 'surprises', frequent events that include earnings reports that exceed or fall short of expectations, government actions, or news about new products.
"And, he believed that analysts were more often than not wrong about their earnings forecasts, which leads to a lot of these surprises. By taking a contrarian approach -- i.e. targeting out-of-favor stocks and avoiding in-favor stocks -- Dreman found you could make a killing.
"To find out-of-favor potential turnarounds, he compared a stock's price to four fundamentals: earnings, cash flow, book value, and dividend yield. Because Dreman took advantage of the overreactions of others, he found that one of the best times to invest was during a crisis.
"Allegheny Technologies is a diversified specialty metals producer; its metals are selected for use in environments that demand metals having hardness, toughness, strength, resistance to heat, corrosion or abrasion, or a combination of these characteristics.
"To meet Dreman's requirements, a company should show a rising trend in the reported earnings for the most recent quarters. ATI's EPS for the past 2 quarters, (from earliest to most recent quarter) -- $1.40 and $1.66 -- have been increasing, and therefore the company passes this test.
"The P/E of a company should be in the bottom 20% of the overall market. ATI's P/E of 3.70, based on trailing 12 month earnings, meets the bottom 20% criterion (below 6.62), and therefore passes this test.
"In addition, the price-to-cash flow (P/CF) of a company should be in the bottom 20% of the overall market. ATI's P/CF of 3.10 meets the bottom 20% criterion (below 3.61) and therefore passes this test.
"A prospective company must have a strong current ratio (greater than or equal to the average of it's industry (2.37) or greater than 2. This is one identifier of financially strong companies, according to this methodology. ATI's current ratio of 2.87 passes the test.
"Further, a good indicator that a company has the ability to raise its dividend is a low payout ratio. The payout ratio for ATI is 10.39%, while its historical payout ratio has been 25.49%. Therefore, it passes the payout criterion.
"Dreman also believed that a company should have a high ROE, as this helps to ensure that there are no structural flaws in the company.
"This methodology feels that the ROE should be greater than the top one third of ROE from among the top 1500 large cap stocks, which is 20.05%, and would consider anything over 27% to be staggering. The ROE for ATI of 30.34% is high enough to pass this criterion."
Steven Halpern's TheStockAdvisors.com offers a daily look at the latest market commentary and favorite stock picks and investment ideas from the nation's leading financial newsletter advisors.
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