We choose not to buy many of the stocks we look at. In fact, we pass on most. Nevertheless, we learn a lot from looking at all of them – and then looking back at them again after we’ve said “no.”
As value investors, we look for stocks selling for less than we think they’re worth. Some are high quality household names that have fallen out of favor temporarily. Some are what we would call cigar butts – high risk companies with lots of things beyond their control that could go wrong.
Looking back at our recent rejects, what’s interesting is that the cigar butts are what have done best. They may or may not continue to do well . . . and they remain high-risk. But it’s been a world where the worst and most hopeless have outperformed the rest. There are no regrets or specific lessons implied here, but here are a few of the things we passed on last fall:
Arcos Dorado (ARCO) is the world’s largest McDonald’s franchisee operating in 20 Latin American and Caribbean countries. When we looked at it last fall — a time when both Latin America and McDonald’s were doing poorly — the stock was $3. Today it is $4.19 (up 40%). Although we liked the business in many ways, we weren’t prepared to take on the risk of owning an Argentina-domiciled company. There was a lot of currency risk, and we also are cautious with stocks priced below $5. But since then, there’s been a market-favorable regime change in Argentina, and Latin America has had some of the best performing equity markets in 2016.
Joy Global (JOY) is a leading global maker of mining equipment – for coal, minerals and other ores. We watched with interest as it fell from $40 to $30, to the mid-teens, and then below $10. Since its 2016 low of $8.35, it has more than doubled to over $20. Last fall, when it was in the mid-teens, the stock was below its financial crisis low and trading at a fraction of sales. While we were favorably inclined, we worried about potential goodwill impairments on the balance sheet and the possibility of it losing its investment-grade credit rating. Joy remains high-risk, but has returned over 60% year-to-date.
Copa Holdings (CPA) is a Latin American airline based in Panama. It’s well managed and well operated, but it was hurt by poor macro conditions and sharp currency devaluations. It also had some cash stuck in Venezuela. We looked at the stock at $48 and liked it, but viewed it largely as a macroeconomic play. Shortly after, Copa got away from us very quickly, and today, it is $68.88 – up over 40%.