Is Monadelphous an investing lesson in the making or a dead cat bounce?

I have watched Monadelphous Group Limited (ASX:MND) fall in the past six months from over $28 to under $15 a share.  At, $28 they were priced above my estimate of fair value so I consider a portion of the price drop to be justified on a normal ‘pull-back’.  However, I do wonder if the scale of the price fall has been over exaggerated amidst commentary of a weakening outlook for the company due to “concerns about China”.

The negative and fearful commentary reminds of similar negative commentary from high profile market participants and media that was parlayed upon Flight Centre (ASX:FLT) and JB Hi-Fi (ASX:JBH) in recent years.

The reason for the familiarity is this……

“Flight Centre is a boring company that has predictable earnings that are growing slowly each year”
Around the time of Christmas 2011, Flight Centre’s share price was falling precipitously.  This was happening while my estimate of intrinsic value was much higher than the share price ($23 at the time), and my estimate of future value was growing.  I heard one market commentator justify the share price fall at the time in Flight Centre on the basis that “it is a boring company that has predictable earnings that are growing slowly each year”.

Well predictable earnings growing slowly each year sounded like a perfect investment to me!!!  And, time has proven this one correct.  I was fortunate to nail the timing on this one.

Here is a 3 year chart of Flight Centre.

“Retail is dead due to online shopping creating a structural change”
It was only 12 – 18 months ago that we heard many market experts and the media talk about the ‘structural change’ in retail and make comments such as ‘retail was dead’.  Why? Because of online shopping.  Did these commentators forget that our own retailers have websites too?

Well, 12 months later, I’m sure you are not hearing about ‘structural change in retail’ with many of our best quality retailers at or near 52 week highs.  JB Hi-Fi (ASX:JBH) was another I invested in at this time of pessimism due to the same reasons, a share price well below my estimate of value with that value rising.  I was a little early on this one (not having a good grasp of technicals at that point in time) and endured some pain as the share price went lower for a couple of months but it has worked out well in the long run.

Here is a 2 year chart of JB Hi-Fi.

A cautious note: It is my observation that some of those who were parlaying the negative commentary in the media on the retail sector have also since admitted to buying shares in retail companies at the same time.  So, be careful of listening to those down-ramping certain sectors because some of those folks are doing so with the full intention of buying cheap shares from you!!

Are you guilty of letting the market tell you how to feel?

I suspect, people selling Flight Centre at $16 and JB Hi Fi at $9 were guilty of letting the market tell them how to feel.  Did sellers at these low prices know they were selling cheaply but sold anyway because it was ‘what everyone else was doing’?

I am certain that many of those that sold Flight Centre for $16 and JB Hi Fi for $9 at losses let the market tell them how to feel at the time.  Some of those people would never have bought again and would regret their sell decision being able look back with the benefit of hindsight.  Some people who sold low would have even calculated how much they would have made if they just held.

I wonder if those selling Monadelphous at $15 recently will feel regret in 6 to 12 months time because “they knew it was worth more” but sold any way because everyone else was.

It takes some foresight to be able to trust that the performance of a company like Monadelphous (now);  Flight Centre (18 months ago) or JB Hi-Fi (12 months ago) with the runs on the board will continue to perform.  It also takes courage to buy after a large price fall.  However, buying after prices have fallen in quality assets is what generates the opportunity for gains.

There is the obvious risk in buying a company like Monadelphous at the moment that has negative sentiment attached.  However, if the market has over-exaggerated the downside in a stock like this, the opportunity for good percentage gains on the upside is obvious.  And, buying Monadelphous at $15 is far less risky than buying it six months ago for $28.

The company may not reach the lofty heights of recent years, but it still has the potential to perform pretty well.  A bit like in sports, you can never discount a champion to rise to the occasion when needed.  Monadelphous has proven to be a champion company over about a decade.  It has been a proven performer that is more likely than its peers to rise to the occasion of more difficult trading conditions.

Here is a 12 month chart of Monadelphous.

This is where the lesson will come in
Will those selling Monadelphous (ASX:MND) under $15 recently feel regret in 6 to 12 months time because “they knew it was worth more” but sold any way in response to the crowd’s behaviour.

Or, is the negative commentary and sentiment in China just the start of worse to come meaning it will be my lesson to learn.

The lesson may be known in a few weeks however, it is more likely that the answer will not be known either way for at least six months.

The point is that the media and market commentators can come up with any number of reasons on why share prices rise or fall (boring companies, structural change, China).  However, allowing the media and commentary noise dictate how you feel about your investment decisions is a mistake as those reasons often change and are conveniently forgotten over time.

And for mine, the opportunity to buy back Monadelphous in the $15’s what I sold in the $26’s meaning I own 60% more stock for the same dollar value is a great opportunity considering I estimate the company is worth about $21 a share in FY14 based on current information.  I plan on writing a more detailed company summary throughout the week.

Disclosure: The Edge Fund (Dean Mico) has recently bought shares in Monadelphous.

As a further disclosure, I should add that I do have a definitive plan in place with Monadelphous.  I did not try to catch a falling knife.  I waited for clear technical indicators that signal a bottom may be in place and combined this with knowing that they are trading at a discount to my estimate of value.  My decision to buy more, hold or sell will be dependent on my view of their annual report and outlook which is due in a couple of weeks and also, the market’s reaction to the same information.

I already have a buffer and margin of safety built into my position coming in to reporting season and if I’m wrong, I don’t plan on enduring ‘pain’ for long.  If I’m right, the gains over a year or two could be similar to those achieved with the other companies mentioned.

This article is published by Dean Mico.

The information provided in this article is intended for general use only. The article is intended to provide educational information only. Please be aware that investing involves the risk of capital loss. The information presented does not take into account the investment objectives, financial situation and advisory needs of any particular person, nor does the information provided constitute investment advice. Under no circumstances should investments be based solely on the information herein.

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