SA Interview: Deep Value Investing In Microcap And Small Cap Stocks With Jeremy Blum

Summary

Jeremy Blum is primarily a microcap and small cap investor of deep value stocks though he casts a wide net. He has a specialty in turnaround situations.

Investing in turnarounds (and what to look for), why looking at the balance sheet is key for deep value stocks and how to gain an edge with independent earnings estimates are topics discussed.

Jeremy Blum shares a long thesis on Superior Group and L.S. Starrett.

Feature interview

Jeremy Blum is primarily a microcap and small cap investor of deep value stocks though he casts a wide net. He has a specialty in turnaround situations. Jeremy formerly was the Credit Manager of a midsized bank until he retired early in 2013. As of October 27, 2021, Jeremy had an average one year return of 42.4% according to Tipranks.com on the 77 articles they tracked. We discussed how to find hidden assets in a company (and how this led to a ~9x return), the ESG trend and the importance of catalysts and/or earnings momentum when investing in deep value stocks.

Seeking Alpha: Walk us through your investment decision making process. What area of the market do you focus on and what strategies do you employ?

Jeremy Blum: While I cast a wide net I tend to end up with microcap and small cap stocks most of which are deep value. I have started to invest in more GARP stocks lately.

I specialize in turnarounds which can be explosive when attitudes toward a company change. A stock can easily double just going from mediocre to below average, then double again going from below average to average. I avoid those who don’t have the balance sheet to go 12 months if things don’t improve. What I look for is clear catalysts for improvement, some of which has already started. The problem is, most years I can only find 2 or 3 good candidates. This past year had an unusual amount of turnarounds due to coming out of the short recession.

My mantra is upside potential must significantly exceed downside risk. The downside risks cannot be ignored and are equally important to research as the positives. My background was financial risk management. This included credit analysis, regulatory compliance, and loan review. I am willing to take more risk as I take the time to understand the risks. I also diversify my portfolio by size and industry. I rarely take an initial position of over 5% of my portfolio.

As a credit analyst I focused primarily on downside risks. This is always something I look at when doing due diligence. But understanding the risks allows me to take more risk selectively.

I am also looking for catalysts that will take a deep value company to the next level. The catalysts section is often the centerpiece of my writeups.

I strongly believe the quality of top management is critical on the long and intermediate term. However counterintuitively, I often buy stocks of companies that have management considered weak. This is because my average holding period is well under 1 year. Most deep value stocks are beaten down for a reason. That’s why well-defined catalysts are so important. Catalysts can include anything from cost cutting, new products getting traction, mergers, asset sales, a growing market, technological advances, and new advantages over competitors.

SA: When is it most (and/or least) appropriate to use book value as a valuation metric? What is the “book value is no longer relevant in the new economy” crowd missing?

Jeremy Blum: There are some industries where book value is important for valuation and these are primarily financial such as banking and insurance. Warren Buffett still uses it for his partial insurance company Berkshire Hathaway. For most other industries, I look at the balance sheet for other reasons besides valuation. For deep value stocks I look to see if it is strong enough to stay out of bankruptcy for at least 12-18 months. That is to give enough time for a turnaround. For other companies I look to see what financial flexibility the balance sheet gives the company in order to do mergers, buybacks, dividends, growth initiatives, and take advantage of opportunities as they arise. Some companies like say Apple for example, I spend almost no time looking at the balance sheet or book value as all you need to know is it’s strong enough for whatever they want to do.

Many of my stocks are deep value which inherently have weak balance sheets. In those cases, it’s very important to […]

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