Most of the time, rifling through garbage for treasure results in nothing but dirty, smelly hands. But once in a while, there's something really valuable littered among the banana peels and used toothbrushes. Earlier this year, a group of Colorado choir students were separating recyclables in several thousand pounds of trash and uncovered two posters signed by Wyland, a famous painter of marine settings; each was estimated to be worth several hundred dollars. A month later, police in Fort Smith, Ark., found $166,600 inside a trash can behind a Red Lobster. On Wall Street, too, there's a group of pros who have had some luck picking through the stocks others have thrown away. And what's more, these so-called value investors are confident that they'll find plenty of hidden gems in the present down-in-the-dumps market. "When we see fear and uncertainty and panic selling, we get very excited," says Larry Pitkowsky, comanager of the $73 million GoodHaven fund.
These days, value investors have plenty of stocks to choose from. From May through September, the market fell 17 percent, in one of the fastest and steepest summer free falls since World War II, according to Standard & Poor's. Stocks have suffered not only from investors' worries that corporate profits might slow but also from their aversion to owning equities in general -- or anything else not backed by the full faith and credit of the U.S. government. Such four-alarm fear rings like a sweet lullaby to people like Connor Browne, comanager of the $3.5 billion Thornburg Value fund. Browne, for one, says the plunge has created deals on certain stocks, on par with those last seen during the financial crisis.
Value managers have scooped up some of these stocks from the market's reject pile.
Cooper Tire & Rubber (CTB)
Costs at this Ohio company, which makes replacement tires, went up in the second quarter, but its stock now has "crazy cheap valuations," says Don Wordell, manager of the $2 billion RidgeWorth Mid-Cap Value Equity fund. "As long as people are still driving cars, they'll need to replace tires," he says.
Wells Fargo (WFC)
While investors have soured on banks, this San Francisco based behemoth is "perfectly safe," says Wally Weitz, manager of the $858 million Weitz Value fund. The firm trades at nine times this year's expected earnings, and analysts anticipate that the company will grow earnings per share by nearly 17 percent in 2012.
Sembcorp Marine (SMBMF)
Singapore-based Sembcorp builds ships and rents other equipment. The stock has fallen, but a global slowdown won't cripple the firm, says Sarah Ketterer, manager of the $1.4 billion Causeway International Value fund. Investors can buy the shares on its home exchange in Singapore or as pink sheets in the U.S.
Investors might fret that pool equipment is the last thing on consumer's minds during a struggling economy. In reality, pool-maintenance equipment isn't optional for people who already have pools, and this Covington, La. based company has a dominant market share, says George Young, partner at Villere & Co., which manages $1.4 billion.
Grupo Prisa (PRIS)
This media conglomerate, headquartered in Madrid, generates a lot of free cash and, through its textbook division, does major business in emerging economies throughout Latin America. Some investors have been turned off by its significant debt load, but Grupo Prisa's bargain-basement stock valuation probably justifies the risk, says David Marcus, chief investment officer at Evermore Global Advisors.
He and many other value managers have used the pullback to buy names from their wish lists. Wally Weitz, comanager of the $858 million Weitz Value fund, spent $61 million during a single-day buying spree on Aug. 8. One of his picks: Wells Fargo (WFC),
The value investors haven't just focused on the most downtrodden names, either -- some also bought the stock of firms whose valuations aren't, on an absolute basis, supercheap but whose prices have become compelling for the first time in a while. Weitz bought Disney, "a great company that's rarely at our price." Likewise, Sarah Ketterer, manager of the $1.4 billion Causeway International Value fund, had been following Singapore-based shipbuilder Sembcorp Marine -- and finally pounced this fall after the firm's stock dropped more than 30 percent. She also scooped up some suddenly inexpensive European names, including Zurich Financial Services and SAP (SAP)
Of course, all the problems in Europe, along with the shaky economy here, could throw another layer of trash on top of the stocks the value investors are now buying. "This volatility is exhausting, and I do this for a living," says Don Wordell, manager of the $1.8 billion RidgeWorth Mid-Cap Value Equity fund. And sometimes these beaten-down stocks turn out not to be hidden gems at all. They become what Wall Street pros call a value trap, and their stocks never recover. But the value managers are willing to bet that their recent Dumpster diving will pay off over the long run. Despite the risks, the value managers believe the odds of picking up a valuable stock in this bad market are a lot better than trolling for valuables at the local landfill.