The stock market in general has dropped about 54 per cent from its high in October 2007. From what I hear, beef cows have dropped from $1,200 before BSE to around $600 now, which is 50 per cent. And canola has dropped from $17 to under $10, or down 42 per cent. Money in circulation around the world has dropped 40 per cent.
Oil dropped from $147 per barrel to $33, or down 77 per cent, and shares of Imperial Oil dropped from $60 to $27 or down 55 per cent. Gold is down five per cent from its peak of $1,000 or so, copper is down to less than half, and many small cap shares are down 95 per cent. Nothing appears to be safe, right?
A lot of people and that includes politicians don’t seem to understand that if 40 per cent of money in circulation has disappeared, then the world will have to learn how to function on 60 per cent of what used to be. Over $1 trillion dollars has been wiped off the value of bank shares, which of course reduces the lending power of the lending industry.
Having told you all that bad news, there is some good news — or should I say there should be some good news coming. The market price of hogs is back to break even or better. The price of your crops now appears to be a floor where these prices used to be a ceiling: big difference. This will make it tough on the beef cow-calf business unless you can run cows for $200 a year, more or less. The days of running cows where you have to mechanically put up winter feed and then feed cows 180 to 200 days might be over because those herds have a hard time competing with herds where feeding six weeks is too long.
An article or two back, I mentioned some stocks that I think are decent long-term buys. Today I want to put a different angle on how to think this stuff: Study the book value of some of our beaten up stocks. Book value of course can be adjusted — maybe “manipulated” is a better word — but it still is a measure of value.
For example, Bank of Nova Scotia has a book value of $21.82, according to MSN. The other day the price dropped to $24, so the price was 110 per cent of book. That has to be a very low ratio of price to book by any historical standards. You can see more numbers like this in the table I have set up in this article.
Two things are hitting or affecting the price of many stocks. One is if the stock is paying a dividend, will the dividend be cut? These days it’s pretty hard to trust or believe the dividend will stay, so we have to be careful. For example General Electric (GE) said last fall that the dividend was secure for a year. In late February, the company cut the dividend from 31 cents per quarter to 10 cents. Secure, eh? The cut had to have been priced into the stock because the price didn’t drop much after the cut was announced.
Russell Metals was paying a $1.80 dividend on a $20 stock and cut the dividend to $1. The cut came as a bit of a surprise because after it was announced, the price of shares dropped from under $20 to under $12. So asking if the dividend is safe is a legitimate question.
The other question is: Will the company have to raise money, especially with an issue of more shares? Issuing more shares doesn’t hurt the company’s books but it sure can dilute earnings. Cameco, for example, has already issued more shares so its stock might be more secure now than before. Some of our Canadian banks have been issuing preferred shares to raise money, which doesn’t dilute earnings but does put a liability on the cash flow. But at least a lender can’t call the loan if the company issues preferred shares.
The big question of course is will the Canadian banks cut dividends? I don’t know. But when I compare the book value of the Canadian banks to the market price, I have to think these stocks are a bargain, or soon will be. But the two questions above still do haunt those stocks. (See the table on book value versus stock price for a few stocks I’m watching.)
I’m not saying every company is a bargain when the stock is priced close to book, but if the company has good management, and has a good business with a good future, buying close to book might just be the bargain many investors look for.
We own shares in Wells Fargo (WFC) with a cost of just around $24 while the price is down around $12. The cost was higher but we’ve been selling covered calls on those shares and on these losers we feel we’re dropping our adjusted cost base as we collect money from calls. On our winners, I count that money as cash coming in. Anyway, WFC pays a nice dividend but the dividends cost the company something like $6.5 billion a year.
WFC bought out Wachovia and there is a cost to mergers and takeovers, so some speculate that WFC won’t make enough money to support the dividend. In any case, the stock has dropped to a third of its $37 high and to half my cost. It would appear a cut is already priced into the stock. I guess we’ll see. The book value is $23 and change, so this one might be worth keeping. I don’t usually buy more shares on stocks that have dropped for me, but I might make an exception with WFC because I see the MACD has started to move up for this stock.
SELLING COVERED CALLS FARTHER OUT
Lately I’ve been investigating the idea of selling covered calls four to six months out. This is partly a reaction to some farmers who say they’re too busy to sell calls each month. A reader of StocksTalk told me his numbers show we can make 50 per cent more money by selling calls into the nearby month than by selling calls farther out. Still, if you’re too busy to sell calls each month selling farther out might be a way to bring in cash money and not have to deal with covered calls every month.
One reader sold calls on Sun