Mad Money

Cramer: Stocks too darned cheap for their sector

Cramer: Stocks too darned cheap for their sector

As more money managers try and figure out how to invest cash in the current market environment, Jim Cramer has noticed one question on everyone's mind. How much is the stock really worth, and how is it valued?

Many individual investors think that they should start investing by putting their money first into index funds or exchange traded funds that mirror certain sectors.

"Remember, you should put your first $10,000 in an index fund so that you can get the benefits of diversification, which lowers your risk but doesn't necessarily have to lower your reward," the "Mad Money" host said.

Once enough money is saved to create a diversified portfolio of individual stocks, Cramer is not a fan of ETFs. In fact, he thinks many ETFs are not created for the benefit of the investor. They are simply rolled out so that the issuers can make money, with many meant for day trading.

"I think these day-trading ETFs should be labeled just like we do with cigarettes so your portfolio won't get hurt, because prolonged exposure to these trading vehicles can be hazardous to your wealth," Cramer said.

Prolonged exposure to these trading vehicles can be hazardous to your wealth
Jim Cramer
Colorox brand toilet bowl cleaner sits on display at a supermarket in Princeton, Ill.
Daniel Acker | Bloomberg | Getty Images

Instead, Cramer looks for stocks that he considers to be misvalued. Those are stocks that are trading out-of-whack with their fundamentals. Meaning, the stock is trading either too cheap versus its sector, or too cheap compared to the market as a whole.

It could also refer to stocks that are trading at a lesser value than what the sum of their parts could be worth or relative to the commodity it produces.

Monday's trading session produced a mad scramble to value stocks, and Cramer thinks it was actually a great lesson on how portfolio managers really work.

First was the break-up between Hewlett Packard Enterprise and HP Inc. The old Hewlett-Packard was considered to be a slow grower, yet in Cramer's perspective the break-up will unlock a tremendous amount of value. HP Inc is a great way to play the possible turn in personal computers, while Hewlett Packard Enterprise has a ton of cash and could be a consolidator of all things networking and storage.

The sum of the parts for these two companies is worth more than the whole, in Cramer's opinion, and he likes them both for the possibility they represent to reinvent themselves in a more benign tech environment.

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The next misvalued company on Cramer's radar was Estee Lauder. Its stock skyrocketed more than 8 percent on Monday delivered a fantastic raise and beat quarter, with earnings coming in at 82 cents when Wall Street only expected 70 cents.

Finally there is Clorox, a company that continues to put up excellent numbers and its stock also continues to fly higher. Cramer saw the best growth he has seen in any of the consumer packaged goods companies, and it lit a fire in the whole group.

So at the end of the day, Cramer says the secret to making money in this market has nothing to do with day trading ETFs, it's all about misvaluation.

"Each day we get revaluations along these lines as portfolio managers search for stocks that fit their worldview, or seem as too cheap on a takeover, sum of the parts, or earnings basis," Cramer said.

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