# 4 Rallying Stocks Undervalued By The Graham Number

(Written by Alexander Crawford, list compiled by Eben Esterhuizen, CFA. BVPS and EPS data sourced from Yahoo! Finance, all other data sourced from Finviz. Data sourced October 12, 2011.)

Stocks that are rallying above recent trading levels often have the momentum to propel themselves even higher, but this is especially true when you have reason to believe that the stock is also undervalued.

One way to search for potentially undervalued stocks is by using an equation created by the “godfather of value investing,” Benjamin Graham. Graham was a former mentor to Warren Buffett, whom he taught at Columbia Business School.

His equation calculates what is known as the “Graham number,” or the maximum fair value for a stock. Any stock trading at a significant discount to this number is considered by the equation to be undervalued.

The Graham Number only requires two data points: current earnings per share and current book value per share.
The Graham Number = Square Root of (22.5) x (TTM Earnings per Share) x (MRQ Book Value per Share).

This equation assumes that a stock is overvalued if P/E is over 15 or P/BV is over 1.5.

To demonstrate this, we ran a screen on over 4,000 US-traded stocks for those that are rallying above their 20-day, 50-day, and 200-day moving averages.

We screened this universe for stocks that appear undervalued to the Graham equation, trading at significant discounts to what the equation considers a “fair value.”

Do you think these stocks are being undervalued by the market? Are their recent rallies evidence that the market is pricing in their superior value?

Use this list as a starting point for your own analysis.

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List sorted alphabetically.

1. AmTrust Financial Services, Inc. (AFSI): Operates as a multinational specialty property and casualty insurance company in the United States and internationally. The stock is 4.28% above the SMA20, 3.65% above the SMA50, and 13.36% above the SMA200. Diluted TTM earnings per share at 2.76, and a MRQ book value per share value at 13.78, implies a Graham Number fair value = sqrt(22.5*2.76*13.78) = \$29.25. Based on the stock’s price at \$23.33, this implies a potential upside of 25.39% from current levels.

2. California First National Bancorp (CFNB): Operates as the holding company for California First Leasing Corp. The stock is 8.82% above the SMA20, 6.90% above the SMA50, and 13.15% above the SMA200. Diluted TTM earnings per share at 1.05, and a MRQ book value per share value at 19.16, implies a Graham Number fair value = sqrt(22.5*1.05*19.16) = \$21.28. Based on the stock’s price at \$16.94, this implies a potential upside of 25.59% from current levels.

3. EasyLink Services International Corporation (ESIC): Provides value added services that facilitate the electronic exchange of documents and information between enterprises, their trading communities, and their customers. The stock is 21.30% above the SMA20, 18.38% above the SMA50, and 21.47% above the SMA200. Diluted TTM earnings per share at 0.72, and a MRQ book value per share value at 3.15, implies a Graham Number fair value = sqrt(22.5*0.72*3.15) = \$7.14. Based on the stock’s price at \$5.12, this implies a potential upside of 39.52% from current levels.

4. Miller Industries Inc. (MLR): Engages in the manufacture and sale of vehicle towing and recovery equipment in North America and internationally. The stock is 1.25% above the SMA20, 1.13% above the SMA50, and 10.09% above the SMA200. Diluted TTM earnings per share at 1.61, and a MRQ book value per share value at 13.73, implies a Graham Number fair value = sqrt(22.5*1.61*13.73) = \$22.30. Based on the stock’s price at \$18.45, this implies a potential upside of 20.88% from current levels.

Interactive Chart: Press Play to see how analyst ratings have changed for the stocks mentioned above. Analyst ratings sourced from Zacks Investment Research.

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