I am always on the lookoug for cheap companies, and one of the means of identifying "cheap" I like to use is the Graham number.
Its formula is pretty straightforward: Multiply earnings per share by book value per share, then multiply that by 22.5, and finally take the square root. As with any valuation, the Graham number only tells part of the story, and it is important to look at the story behind the numbers to see if there are underlying reasons why the company appears so cheap.
Last week, I discovered the financial sector is among the cheapest sectors out there when it comes to the Graham number. The reasons for this are varied, so I will be taking a deeper look at the 27 financial companies that currently trade below their Graham valuations to see if there is real value in the company, or if there is an underlying reason why investors should avoid the stock in question. I will then make a CAPScall regarding the future performance of the company. Up next will be Assurant .
What is it?
Assurant is a provider of specialty insurance products, both in the U.S. and abroad. Among its products is life insurance, though it tends to focus on customers that aren't covered by a larger group plan. They also manage employee benefit plans, and help companies of various sizes provide long- and short-term disability coverage, life and dental insurance, and other coverage to employees.
They also offer force-placed homeowner's insurance, which is insurance that mortgage companies purchase to cover lapses in a borrower's own homeowner's insurance policy, thus protecting their investment in the case of damage or loss while the house is not covered by the borrower. It is this business that could have led to its current low valuation, which I'll get to in a minute.
How cheap is it?
I first took a look at Assurant's Graham valuation back in September, and since then, it has managed to grow its book value, though it has seen a slight reduction in EPS and Graham number valuation. Nevertheless, it is still selling for a large discount to this valuation:
Book Value per Share (MRQ)
CNO Financial Group
StanCorp Financial Group
Source: Yahoo! Finance and author's calculations.
Why does a company like Assurant have over 120% of upside from its current price to its Graham valuation? Last year, investors took notice when Assurant was accused of collusion with some large banks regarding fees associated with force-placed homeowner's insurance. Though the share price has recovered since then, and currently exceeds what it was in May of last year, the episode was enough to shake investor confidence and pushed the price down 18% over the following two months following the revelation of the alleged impropriety.
Though Assurant is the cheapest on the list, some of the other companies could also be an option with plenty of room to grow. Unum Group, the largest provider of disability insurance in the United States and United Kingdom, currently trades at a 23% discount to its book value and boasts a dividend yield above 2%. Triple-S Management is the leading provider in the managed care industry in Puerto Rico, providing a great moat for the company. Nevertheless, the company currently trades at a 32% discount to its book value, also making it an attractive option in light of its stellar Graham valuation.
A stock's valuation, regardless of the method used, only tells part of the story when evaluating a company. However, by going beyond its Graham number valuation, it is easy to see why Assurant might appear so "cheap" at its current price. Though the company has plenty of room to grow into its Graham valuation, investors should keep an eye on the force-placed insurance business to make sure those issues are behind them. Nevertheless, I will be giving the stock a "thumbs up" over on my CAPS page in order to track this call and keep myself accountable.
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The article This Insurer Is Cheap According to Benjamin Graham originally appeared on Fool.com.
Fool contributor Robert Eberhard has no position in any stocks mentioned. The Motley Fool recommends American International Group. The Motley Fool owns shares of American International Group, Citigroup, and JPMorgan Chase. and has the following options: Long Jan 2014 $25 Calls on American International Group. 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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