Ben Graham would have loved offshore driller Atwood Oceanics, while younger value guru Joel Greenblatt might prefer Ariad Pharma, a cheap biotech developing treatments for the most aggressive cancer, writes John Reese in Validea Hot List.
I recently wrote about "closet indexers"—funds that purport to be actively managed but which really act as index funds—and how you can't beat the market by owning it. Many of the best opportunities lie outside the major indices (like the S&P 500 or Dow Jones Industrial Average), where a myriad of good stocks can fly under the radar. Today, I'm recommending two smaller stocks that aren't members of the S&P 500 or the Dow.
The first is Atwood Oceanics (NYSE: ATW), a Houston-based offshore oil drilling firm with a $2.4 billion market cap. Atwood has been a big winner for one of my most stringent—and most successful—strategies, the model I base on the writings of the late value investor Benjamin Graham.
Atwood's shares were hit hard by the fear surrounding the oil spill in the Gulf of Mexico in April, and my Graham-based portfolio picked it up in early September, right around when it hit bottom. Since then the stock is up more than 40%. Atwood isn't nearly as well known as some of the bigger oil drillers, but it has an excellent balance sheet—its current ratio dividing current assets by current liabilities is 3.85, and it also has more net current assets than long-term debt, a key criterion Graham used.
Atwood’s small size and relative anonymity have also helped it fly under the radar of many investors. While big oil services firms like Halliburton (NYSE: HAL) and Schlumberger (NYSE: SLB) trade for 25 or 26 times earnings, Atwood trades for just ten times three-year average earnings. [Bryan Perry recently recommended another offshore drilling play with a 5.5% yield.]
The Bureau of Ocean Energy Management's chief recently said new permits for drilling in the Gulf of Mexico should be issued in the first half of this year, a good sign. But Atwood has operations around the globe, and increased both earnings and sales in its 2010 fiscal year despite the temporary ban on drilling in the Gulf.
Bantamweight Battles Toughest Cancers
The other new addition to the Hot List is a small-cap that has also been hot but remains an under-the-radar pick: Ariad Pharmaceuticals (Nasdaq: ARIA).
Based in Cambridge, Mass., Ariad is a biotech firm that develops small-molecule drugs to treat aggressive cancers for which current therapies are inadequate. It's not getting a ton of love from Wall Street, trading for only about eight times earnings, but it has caught the eye of my Joel Greenblatt-based model. Greenblatt is a value investor who seeks out companies with high earnings yields and lofty returns on invested capital.
Ariad boasts an impressive 193% return on capital and a strong 13.8% earnings yield, making it the 19th-most-attractive stock in the market, according to this model.
The firm recently announced that its ridaforolimus drug, which is being developed in collaboration with Merck (NYSE: MRK), had a successful Phase 3 trial for patients with metastatic soft-tissue or bone sarcomas.