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Small-cap fans should consider these five stocks

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Tuesday, April 16, 2013, 12:01 a.m.
 

The saying that “good things come in small packages” applies to the stock market. During the past few decades, small-capitalization stocks — though probably riskier than large-caps — have outperformed their bigger brethren.

If only a few analysts follow a small stock, so much the better. Academic studies have demonstrated that stocks followed by three analysts or fewer tend to outperform the overall market.

Since I began this column in 1997, I have written 19 columns specifically on small-stock recommendations. This one is the 20th.

I'm working on a complete tabulation of the results. At this point, I have results for the 14 columns published since March 2000.

For those 14 columns, the average one-year gain has been 21.4 percent, compared with 5.3 percent for the Standard & Poor's 500 and 9.3 percent for the Russell 2000, a small-stock index.

Eleven of the 14 sets of recommendations beat the S&P 500, and the winning percentage was the same against the Russell 2000. Thirteen of the 14 sets were profitable.

For the earlier columns, “one year” is an approximation, as I used to measure results from the time one column was published until the next one on the subject went to press.

My list from a year ago proved to be a dud. A 13 percent loss in Kulicke & Soffa Industries Inc. (KLIC), which I own for clients, helped to pull down the average gain to 0.3 percent. That was far behind the 18 percent gain in the Russell 2000 and the 16.9 percent gain in the S&P 500.

Bear in mind that performance results for column recommendations are hypothetical and don't reflect transactions costs or taxes. Past performance doesn't predict future results. And results of column recommendations shouldn't be confused with the performance of actual portfolios I manage for clients.

Hoping to get back on the winning track, I offer five new small-stock recommendations for the coming 12 months.

I'll start with LSB Industries Inc. (LXU) of Oklahoma City. It gets most of its revenue from chemical manufacturing and about a third from climate control products.

LSB has been profitable eight years in a row and is expected to put up record earnings this year. The stock, which is covered by only three analysts, is moderately priced at 13 times earnings.

Employers Holdings Inc. (EIG), out of Reno, writes workers' compensation insurance. It has earned a profit every year since it went public in 2007. Last year, it had a 21 percent return on stockholders' equity, which is quite good. Yet the stock sells for only seven times earnings.

That is partly because workers' comp is a dangerous and unpredictable line of business. But so far, EIG seems to be navigating it well.

Five analysts follow Employers Holdings stock, and four of them rate it a buy. Normally I don't like to side with the majority, but in this case, I will.

American Public Education Inc. (APEI) is based in Charles Town, W.Va. It provides online education in specific specialized fields, mainly military and governmental.

This company also went public in 2007 and has never had a loss year. It is debt free, a quality that always catches my eye. Earnings set a record in 2012 and are expected to break it in 2013.

APEI stock traded above $40 for most of February but fell to about $34 on the impact of federal budget “sequestration.” Assistance for military tuitions was one of the items cut. In my view, the chances that the federal funds will be restored are fairly good.

Fourth, I recommend Stewart Information Services Corp. (STC). Based in Houston, Stewart provides title insurance and related services. I expect more turnover in the housing market in the coming 12 months, and I figure Stewart will benefit.

Five horrible years for housing have hurt Stewart and its peers. That's why only two analysts bother to follow the stock. (Both rate it a buy.) And that's why the stock sells for only six times earnings. At that level, I think it is attractive.

Last but not least, I like Ebix Inc. (EBIX) of Atlanta, which provides information technology products and services to the insurance industry. It has shown steady and consistent earnings growth in the past several years, with a growth rate near 25 percent a year.

Ebix shares sell for just under 10 times earnings. Four analysts follow its stock, three of whom recommend it.

John Dorfman is chairman of Thunderstorm Capital in Boston and a syndicated columnist. He can be reached at jdorfman@thunderstormcapital.com.

 

 
 


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