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A worker separates nickel ore at a processing plant owned by PT Vale Indonesia in a file photo. (YUSUF AHMAD/REUTERS)
A worker separates nickel ore at a processing plant owned by PT Vale Indonesia in a file photo. (YUSUF AHMAD/REUTERS)

Strategy

Five undervalued international stocks to buy Add to ...

John Reese is founder and CEO of Validea.com and its Canadian site Validea.ca, as well as Validea Capital Management, and is a portfolio manager for the Omega American & International Consensus funds. Globe Investor has a distribution agreement with Validea.ca, a premium Canadian stock screen service. Try it.

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During the financial crisis, the United States was the poster child for economic distress. With its banking system in disarray, many feared the U.S. was headed for ruin.

Since then, the U.S. has staged a solid comeback, while other parts of the world have moved to the head of the trouble list. The euro zone and the U.K. are dealing with debt crises and recessions. China is experiencing a slowdown in growth and Latin American markets are being hit by fears that slower global growth will hurt their resource-driven economies.

Some international equity markets are now downright cheap. Yes, there are risks. But as the billionaire Warren Buffett has said, the best time to be greedy is when others are fearful.

That doesn’t mean you should fill your portfolio entirely with stocks from highly troubled areas. But you shouldn’t rule them out, either. As part of a diversified portfolio, they can be wise bets.

My Guru Strategies, each of which is based on the approach of a different investing great, are very high on a number of international stocks right now, many of which come from maligned parts of the world. Here are a few of their favourites that trade on U.S. exchanges.

Vale SA
This Brazil-based metals and mining company operates in more than three dozen countries. Its shares have struggled over the past two years, in part because growth in China – where Vale sells a lot of its materials – has slowed. But my contrarian model, based on the work of Canada-born David Dreman, thinks investors have punished them too much.

The Dreman-based strategy considers Vale a contrarian play because both its price-to-earnings and price-to-dividend ratios fall into the market’s bottom 20 per cent. Given that it has 11.2 per cent pretax profit margins, a reasonable 42 per cent debt-to-equity ratio, and a 5.2 per cent dividend yield, the Dreman-based approach thinks it should be getting more love.

My James O’Shaughnessy-based value model also likes Vale. When looking for value plays, Mr. O’Shaughnessy, a noted researcher in quantitative investing methods, targeted large firms with strong cash flows and high dividend yields. Vale certainly has the size and dividend yield, and its $1.93 (U.S.) in cash flow per share also tops the market mean of $1.46.

CNOOC Ltd.
CNOOC – short for Chinese National Offshore Oil Corporation – is an oil and natural gas giant that gets strong interest from my Buffett-inspired model, which looks for companies with lengthy histories of earnings growth, manageable debt, and high returns on equity. CNOOC delivers on all fronts. Its earnings per share have dipped in just two years of the past decade; it could pay off its $4.7-billion in debt in less than a year, if it wanted to, given its $10.4-billion in annual earnings; and its 10-year average ROE is an impressive 25.9 per cent.

The strategy I base on the writings of mutual fund great Peter Lynch also likes CNOOC. Lynch famously used the P/E-to-Growth ratio to find bargain-priced growth stocks, adjusting the “growth” part of the equation for dividend yield for big, moderate growth firms. CNOOC has an 8.0 price/earnings ratio, 17 per cent long-term growth rate and 3.3 per cent yield. That makes for a PEG of 0.4, which falls into this model's best-case category.

NetEase, Inc.
This $7.8-billion-market-cap Chinese tech firm operates a number of popular online games, including World of Warcraft, as well as e-mail services, advertising services and web portals. It’s another favorite of my Lynch- and Buffett-based models. The Lynch approach likes its 24.3 per cent long-term growth rate and 13.4 P/E, which make for a solid 0.55 PEG. It also likes that NetEase has no long-term debt.

The Buffett-based model also likes NetEase’s lack of long-term debt, as well as its 29.4 per cent average 10-year ROE.

Statoil ASA
Based in Norway, this integrated oil and gas firm has operations in three dozen countries. It has raked in more than $123-billion in sales in the past year. It gets strong interest from my Lynch-based model, which likes its 6.3 P/E and 25.5 per cent long-term growth rate, which make for a 0.25 PEG. My O’Shaughnessy-based value model also likes the stock, thanks to its size, $7.29 in cash flow per share, and 5 per cent dividend.

Smith & Nephew PLC
U.K.-based S&N makes a variety of medical devices, such as joint reconstruction implants, high-definition digital cameras that allow doctors to see inside joints, and radio frequency wands used in repairing damaged tissue.

Smith & Nephew has had three EPS dips in the past decade, but they have been minor. That, combined with its $430-million in debt vs. $731-million in annual earnings and 19.7 per cent average ROE over the past decade, make it a favourite of my Buffett-based model. My Lynch-based approach also likes the firm, because its 17 per cent long-term growth rate, 2.2 per cent dividend yield, and 14.7 P/E ratio make for a solid 0.75 PEG ratio.

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