The Ultimate Contrarian Small Cap Stock

In continuing with the contrarian theme we started earlier this week in the Guide, we searched far and wide to find the ultimate contrarian small cap stock.

Right now coal might offer opportunities along these lines. There can be no doubt that the POTUS is using the EPA in his green crusade to end ‘global warming’ to finish of the coal industry so to be positive on coal is not only contrarian but politically incorrect, which describes us to a tee.

Back on Halloween 2013 we featured Peabody Energy Corporation (NYSE – BTU - $15.18) in the Market Monitor at $19.90. The stock climbed over $1.00 in price level in less than a month, but then fell back to under the $16 level, before making another charge. Currently we are sitting at 23% down. More on that later.

There are two ways to look at BTU. First, one could view it from a long term macroeconomic perspective as a buy and hold investment. The Fossil Fuel Fighter-in-Chief will not be President forever. All indications are that the GOP will hold the House and more than likely gain the Senate this fall. Additionally, there have been some recent set-backs for the President’s signature legislation, the ACA, in the courts. The momentum is already swinging back to the right for 2016, as part of the natural political cycle. Additionally, Peabody Energy is a solidly run firm. The Company is still in the black when it comes to operating margin at 2% while the industry is at -25%. And, Peabody has nearly $550M in cash to withstand downward cycles. For the long term investor a holding period for this stock may be three to five years or so. We should note, however, that just a little over three years ago the stock was sitting over $72.

The second way to approach BTU is as a pure trade based upon technical analysis. As we mentioned above the stock appears to have hit a new relative low. More specifically, it appears to be approaching another end of a classic head and shoulders cycle. The figure below illustrates this in detail.

1 Year Chart for BTU

(Source: Yahoo Finance)

Buying at the neckline, which we averaged out from October 2013 and February 2014, in Group 1 (shown in black) would have yielded a 26% return late in 2013. The second group started at a lower position, but buying at the low in March of 2014 and selling in May at the high would have resulted in a 23% gain. If we compute the calculation, the buying price for the stock given the current head and shoulders phase is at around the $11.50 price level. BTU one might be worth watching and getting in somewhere under $12.

We will leave it up to you to decide if this is a trade or have faith that the coal industry will rebound and is a long term play.

Have a great day!

Disclosure: Goldman Small Cap Research analysts are neither long nor short these shares but may elect to purchase the stock within the next 48 hours.

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