We have found in our research on 13F filings from hedge funds and other notable investors that the most popular small cap stocks (which we defined as market capitalization between $1 billion and $5 billion) among hedge funds generate an average excess return of 18 percentage points per year (learn more about our small cap strategy). This shows that small cap stocks can be a rich source of alpha, and we think that this is because these companies tend to be less covered by large institutional investors and by third party analysts. Investors can also look at small cap recommendations from top fund managers to try to identify interesting names for further research. Here are five top small cap stock picks from billionaire David Tepper’s Appaloosa Management as of the end of December (or see the full list of stocks Tepper reported owning)
The fund owned over 14 million shares of The Goodyear Tire & Rubber Company (NASDAQ:GT) as of the end of 2012. In the fourth quarter of the year The Goodyear Tire & Rubber Company (NASDAQ:GT) experienced a double-digit percentage decline in both revenue and earnings versus a year earlier; considering its high pension liabilities, the company is effectively highly leveraged and so this is not a good sign. Wall Street analysts expect much higher net income in 2014, and the forward P/E is only 5, but we would still be cautious here. Billionaire Steve Cohen’s SAC Capital Advisors reported a position of 6.9 million shares in its own 13F (find Cohen’s favorite stocks).
Read on for three more of Tepper’s small cap picks:
Huntsman Corporation (NYSE:HUN), a $4.4 billion market cap chemicals company, was another of Appaloosa’s small cap picks with the filing disclosing ownership of 7.4 million shares. With demand for many chemicals dependent on the broader economy, Huntsman’s beta is 2.5. Revenue was about flat in its most recent quarter compared to the same period in the previous year, but little growth is required given the trailing P/E of 12. Passport Capital, managed by John Burbank, had Huntsman Corporation (NYSE:HUN) as one of his largest holdings by market value at the beginning of January (research more stocks Burbank likes).
According to the 13F Tepper and his team owned 2.4 million shares of Owens Corning (NYSE:OC), the provider of building materials including glass fiber and insulation. Owens Corning is another company tied to macro factors (namely construction) and so its beta is high as well at 1.8. Consensus earnings estimates for 2014 imply a forward P/E of 12, with expectations for continued growth pulling the five-year PEG ratio below 1. However, once again business was not particularly strong in its last quarterly report. Tiger Cub John Griffin’s Blue Ridge Capital was another major shareholder in Owens Corning (NYSE:OC).
Appaloosa cut its stake in Sealed Air Corp (NYSE:SEE) by 10% but still had 1.8 million shares of the $4.4 billion market cap packaging products company in its portfolio at the end of December. At that valuation, Sealed Air Corp (NYSE:SEE) trades at 14 time forward earnings estimates and that figure is based on forecasts that earnings will rise over the next couple years. Scopia Capital, a hedge fund with over $2 billion in assets under management, was buying shares during the fourth quarter (see Scopia’s stock picks).
Disclosure: I own no shares of any stocks mentioned in this article.
