Genworth Financial Inc (GNW), Cliffs Natural Resources Inc (CLF): Why the Cheapest Stocks in the S&P Aren’t Necessarily Great Values

The S&P 500 has soared in the past four years, leading many to fear that the index is long overdue for a major correction. In times of trouble, value investors often look to stocks that trade at low valuations compared with their peers to provide a margin of safety from a potential downturn.

Yet judging stocks on a single valuation metric can lead to misleading conclusions that can prove costly. Today, let’s take a look at some of the least expensive stocks in the S&P on a price-to-book value basis, with an eye toward understanding why book value might not be the best way to judge whether these stocks are truly cheap.

The cheapest stocks in the S&P
On a book-value basis, financial stocks have had low book values for a long time. Genworth Financial Inc (NYSE:GNW) trades at just one-third of book value, while plenty of other insurance companies and banks offer price-to-book ratios of between 0.5 and 0.75. Yet during the financial crisis, investors learned just how inaccurate book values were. Massive writedowns of toxic assets proved necessary to reflect the actual value of those assets, and as a result, price-to-book ratios temporarily soared even as stock prices plunged.

Genworth Financial Inc (NYSE:GNW)

The big question going forward is whether the assets on financial-company balance sheets are now properly valued. Genworth Financial Inc (NYSE:GNW), for instance, still has potential mortgage-guarantee liability, and although the housing market has improved, Genworth Financial Inc (NYSE:GNW)’s low price-to-book reflects skepticism that book value is appropriate for its assets.

Steeling yourself for further declines?
A similar argument exists for other low-price-to-book stocks, including Cliffs Natural Resources Inc (NYSE:CLF), Alcoa Inc (NYSE:AA), and United States Steel Corporation (NYSE:X). Each of these three companies has a highly capital-intensive business involved in processing raw materials and producing either ingredients for fabricated metal production or the metals themselves. When you look at their balance sheets, all of these companies have substantial amounts of assets locked up in plants and equipment, much of which hasn’t been subject to depreciation yet.

Yet for these companies, the value of those plants might be far less than what they’re carrying on the books. Cliffs Natural Resources Inc (NYSE:CLF) and Alcoa Inc (NYSE:AA) have both had to idle some of their production facilities recently, while U.S. Steel has had some of its furnaces remain idle for years. Low price-to-book ratios reflect the belief among investors that those closures will persist for quite a while, making the true value of those production facilities far less than what the companies are carrying on their books.

Look beyond the book
Book value can be a useful metric, but it doesn’t necessarily reflect economic reality. Only by understanding the challenges facing each company can you truly decide whether book value is reflecting of intrinsic value — and therefore whether you should see stocks with low price-to-book ratios as actually being smart stock bargains.

Cliffs Natural Resources Inc (NYSE:CLF) has grown from a domestic iron ore producer into an international player in both the iron ore and metallurgical coal markets. It has also underwhelmed investors lately, especially after its dramatic 76% dividend cut in February.

The article Why the Cheapest Stocks in the S&P Aren’t Necessarily Great Values originally appeared on Fool.com.

Fool contributor Dan Caplinger has no position in any stocks mentioned. You can follow him on Twitter: @DanCaplinger. The Motley Fool has no position in any of the stocks mentioned.

Copyright © 1995 – 2013 The Motley Fool, LLC. All rights reserved. The Motley Fool has a disclosure policy.

blog comments powered by Disqus
Insider Monkey Headlines
Insider Monkey Small Cap Strategy
Insider Monkey Small Cap Strategy

Insider Monkey beat the market by 52 percentage points in 24 months Click to see monthly returns in table format!

Lists

The 14 Most Watched TV Finales Ever

The 10 Best Selling Role Playing Games of All Time for PC

10 Most Influential Papers In Economics

Top 8 Biggest Charities in the US

10 Worst Celebrity Career Moves Ever

Top 10 Best Paid Tennis Stars in the World

10 Cities with High Demand for Nurses

6 of the Worst Greeting Card Messages Ever Crafted

6 Ways to Make Money in ArcheAge and Build Your Empire

10 Foods To Eat To Lower Cholesterol Levels

The 10 Most Hated Television Characters of All Time

The 30 Worst Halloween Costume Ideas Ever Brought to Horrible Life

10 Vocational Skills in Demand Today with Jobs Waiting to be Filled

10 Best Places to Visit in Central and South America

The 10 Greatest Empires in History Which Nearly Conquered the World

The 6 Cheapest Boarding Schools In America 2015

5 Clear Reasons LoL is Better than DotA, Continues to Rule MOBAs

The Only 9 Teams with a Chance to Win the Super Bowl

The 15 Most Common Phobias in America that Induce Fits of Panic

Top 6 Least Expensive Tourist Destinations in 2014

Jim Goetz, Peter Fenton, Jim Breyer: Top 6 Venture Investors for 2014

Top 15 Billionaires in 2014

5 Pitfalls To Avoid When Buying a Franchise

Top 20 Medical Schools in the US – 2014 Rankings

4 Business Strategies that Turned Jamie Oliver into the World’s Richest Chef

6 Qualities That Make You A Good Team Player

10 High Paying Seasonal Jobs in America this Holiday Season

The 10 Busiest Shipping Lanes in the World

5 Most Valuable Brands in China

The 10 States with Highest Substance Abuse Rates Crippling Their Populace

The Top 10 Things to Do Before You Die That Will Echo for Eternity

The 10 Best Selling Items on Etsy

Top 10 Things to Do in Tokyo, the Greatest City in the World

10 Mistakes on Social Media that Can Harm You and Will Probably Get You Canned

The 10 Best Cities to Find Jobs in 2014

The 10 Most Controversial Songs Of All Time to Hit (and get Banned from) the Airwaves

The 20 Biggest IPOs in US History

The 10 Best Places to Visit in Mexico that Are Beautiful and Safe

7 Bad Habits that Age You Beyond Your Years

The 40 Best Fortune Cookie Sayings That Will Leave You Bemused, Befuddled, or Beguiled

10 Foods to Eat Before a Workout to Make Every Drop of Sweat Count

The 5 Best Documentaries On Netflix You Must See

The Most Heartwarming and Inspirational Story Of This Halloween Season, It Will Make You Cry and Jump For Joy

10 Best Party Songs of All Time to Bring the House Down With

5 New World Order Conspiracy Theories that Will Strangle the World

The 10 Highest Rated Movies of 2014

The 10 Largest Container Shipping Companies in the World

The 10 Largest Armies in the World: Who Should We Be Afraid Of?

Best Warren Buffett Quotes on Money You Need to Hear

The 10 Highest Suicide Rates by Profession

Subscribe

Enter your email:

Delivered by FeedBurner

X

Thanks! An email with instructions is sent to !

Your email already exists in our database. Click here to go to your subscriptions

Insider Monkey returned 47.6% in its first year! Wondering How?

Download a complete edition of our newsletter for free!