Contrarian Ideas: Maybe the S&P 500 Isn't Cheap After All

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Yesterday we examined Bloomberg's recent article on the similarities between today's S&P 500 P/E levels and those of the Reagan era. We explored the opportunity to buy discounted stocks and discussed analyst predictions that the economy will recover, albeit slowly.

Today we revisit the topic with a more contrarian outlook.

Barry Ritzholz of The Big Picture thinks Bloomberg leaves out a few key factors in their slightly upbeat outlook for America's stock markets.

Firstly, Ritzholz points to overestimated earnings growth. Analysts have a history of overestimating growth by a significant margin, perhaps in response to a "if we wish for it hard enough" mentality. If future earnings growth was lowered, P/E's would seem cheaper, but it would more accurately reflect an ongoing deflationary economy.

Secondly, the impact of recession on earnings hasn't been properly accounted for. Bloomberg cited that a 22% drop in earnings would be necessary to put P/E ratios back on track to the 16.4 50-year average. "Indeed, that line of thinking ignores the overhang of housing, the deleveraging consumer, and tight credit conditions -- all of which could easily persist for years to come."

Faced with falling asset prices and "an unwillingness for investors to buy up for a dollar of earnings," perhaps the S&P 500 isn't so cheap after all -- only deflating. The market, according to Ritzhot, is littered with falling knives.

Is Ritzholz's take on Bloomberg's article more your style?

To help you identify some potential value traps in the market we list stocks below that appear undervalued by price to earnings (under 15), but for which there may be good reason.

All the stocks in the list below have experienced increases in short interest over the past month. Because short-selling requires borrowing, an individual or institution must meet several requirements (including background checks) to engage in short-selling. Thus, in general, short-sellers are more sophisticated than the average investor.

Do you think these names are falling knives? (Click here to access free, interactive tools to analyze these ideas.)

1. Lexmark International (NYS: LXK) : Computer Based Systems Industry. Market cap of $2.49B. P/E at 7.29. Shares shorted have increased from 4.80M to 8.43M month-over-month, a change representing 4.63% of the company's 78.36M share float. The stock has had a couple of great days, gaining 8.28% over the last week.

2. Cephalon (NAS: CEPH) : Biotechnology Industry. Market cap of $6.29B. P/E at 11.86. Shares shorted have increased from 8.96M to 11.39M month-over-month, a change representing 3.44% of the company's 70.71M share float. Relatively low correlation to the market (beta = 0.39), which may be appealing to risk averse investors. The stock has gained 42% over the last year.

3. GameStop (NYS: GME) : Electronics Stores Industry. Market cap of $3.27B. P/E at 8.56. Shares shorted have increased from 34.72M to 38.65M month-over-month, a change representing 2.83% of the company's 138.76M share float. The stock is a short squeeze candidate, with a short float at 27.75% (equivalent to 9.38 days of average volume). The stock has had a couple of great days, gaining 6.89% over the last week.

4. Moody's (NYS: MCO) : Business Services Industry. Market cap of $7.05B. P/E at 11.63. Shares shorted have increased from 21.26M to 25.46M month-over-month, a change representing 2.30% of the company's 182.95M share float. The stock is a short squeeze candidate, with a short float at 11.16% (equivalent to 6.76 days of average volume). The stock has had a couple of great days, gaining 14.28% over the last week.

5. Ball (NYS: BLL) : Packaging & Containers Industry. Market cap of $5.83B. P/E at 11.43. Shares shorted have increased from 4.64M to 7.68M month-over-month, a change representing 1.89% of the company's 160.61M share float. Relatively low correlation to the market (beta = 0.63), which may be appealing to risk averse investors. The stock has had a couple of great days, gaining 5.6% over the last week.

6. Pitney Bowes (NYS: PBI) : Business Equipment Industry. Market cap of $4.05B. P/E at 11.57. Shares shorted have increased from 19.81M to 23.18M month-over-month, a change representing 1.67% of the company's 201.61M share float. The stock is a short squeeze candidate, with a short float at 11.49% (equivalent to 7.88 days of average volume). The stock has had a couple of great days, gaining 10.18% over the last week.

7. Amphenol (NYS: APH) : Diversified Electronics Industry. Market cap of $7.84B. P/E at 14.93. Shares shorted have increased from 3.76M to 6.48M month-over-month, a change representing 1.61% of the company's 168.86M share float. The stock has had a couple of great days, gaining 8.93% over the last week.

8. Lockheed Martin (NYS: LMT) : Aerospace/Defense Products & Services Industry. Market cap of $24.86B. P/E at 9.81. Shares shorted have increased from 16.19M to 20.28M month-over-month, a change representing 1.53% of the company's 267.56M share float. The stock is a short squeeze candidate, with a short float at 6.05% (equivalent to 7.72 days of average volume). The stock has had a couple of great days, gaining 5.94% over the last week.

9. Computer Sciences (NYS: CSC) : Information Technology Services Industry. Market cap of $4.71B. P/E at 6.32. Shares shorted have increased from 4.54M to 6.85M month-over-month, a change representing 1.49% of the company's 154.74M share float. The stock has had a couple of great days, gaining 9.63% over the last week.

10. Peabody Energy (NYS: BTU) : Industrial Metals & Minerals Industry. Market cap of $13.16B. P/E at 14.77. Shares shorted have increased from 6.95M to 10.97M month-over-month, a change representing 1.49% of the company's 270.14M share float. The stock has had a couple of great days, gaining 16.69% over the last week. The stock has performed poorly over the last month, losing 15.32%.

Interactive Chart: Press Play to compare changes in analyst ratings over the last two years for the stocks mentioned above. Analyst ratings sourced from Zacks Investment Research.


Kapitall's Becca Lipman does not own any of the shares mentioned above. Short seller data sourced from Yahoo! Finance. All other data sourced from Finviz.

At the time this article was published The Motley Fool owns shares of GameStop, Lockheed Martin, and Computer Sciences. Motley Fool newsletter services have recommended buying shares of Moody's. Motley Fool newsletter services have recommended writing covered calls in GameStop. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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