Guru Strategies Eye Auto Finance

08/12/2015 7:00 am EST

Focus: STOCKS

John Reese

Founder and CEO, Validea.com And Validea Capital Management

John Reese assesses stocks using screens based on the market’s most legendary investors; in his Validea, he recommends two stocks in the auto finance sector, based on the strategies of David Dreman and Martin Zweig.

Santander Consumer USA Holdings (SC), a specialized consumer finance company focused on vehicle finance and unsecured consumer lending products, scores a 90% rating on our David Dreman contrarian model.

The model focuses on medium- to large-sized companies that show a rising trend in reported earnings for the most recent quarters.

This methodology likes to see companies with an EPS growth rate higher than the S&P in the immediate past and a likelihood that this trend will continue in the near future.

Dreman’s methodology would utilize four separate criteria to determine if SC is a contrarian stock.

The P/E of a company should be in the bottom 20% of the overall market. SC's P/E of 9.05, based on trailing 12-month earnings, meets the bottom 20% criterion (below 12.42) and therefore passes this test.

The price to cash flow ratio should be in the bottom 20% of the overall market. The ratio of 4.53 meets the bottom 20% criterion (below 7.11) and therefore passes this test.

Credit Acceptance Corporation (CACC), a provider of financing programs to automobile dealers, scores a 92% rating on our Martin Zweig model.

In this model, the P/E of a company must be greater than 5 to eliminate weak companies, but not more than 3 times the current market P/E and never greater than 43.

CACC's price to earnings ratio is 17.30, based on trailing 12 month earnings, while the current market PE is 18. Therefore, it passes this test.

Another important issue regarding sales growth is that the rate of quarterly sales growth is rising, and for CACC, this criterion has been met.

The earnings numbers of a company should be examined from various different angles, stability in the trend of earnings, persistence, and earnings acceleration. CACC passes these tests, which means that it has good, reasonably steady earnings.

One final earnings test required is that the long-term earnings growth rate must be at least 15% per year. CACC's long-term growth rate of 20.05%, based on the average of the three, four, and five years, passes this test.

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