Today I’m bringing you a Q&A with Cabot Benjamin Graham Value Letter Editor J. Royden Ward. You haven’t heard from him in a while, so I wanted to bring you up to speed on his latest thinking about what happened in 2008 and where he sees the stock market and value stocks headed in 2009 and beyond. But first, a little background …

Cabot Benjamin Graham Value Letter, launched in 2003, uses the teachings of Benjamin Graham, the father of value investing, in a system that safely builds long-lasting wealth. Unlike Cabot’s growth publications, the letter doesn’t use market timing, instead relying on a 76-year-old system, followed by investors such as billionaire Warren Buffett, to pick undervalued stocks and hold them until they reach a specified valuation.

Value investing is about finding stocks that the market has not correctly priced, in other words, a stock that is worth more than is reflected in the current price. Value investing has been proven to work well over time when you buy carefully, follow a proven system and hold for the long term. Most subscribers to Cabot Benjamin Graham Value Letter are looking for ways to safely build wealth over the long term. They want the freedom to go on vacation without worrying about their stocks.

The main goal of the Cabot Benjamin Graham Value Letter is to provide you with exceptional stock recommendations using the techniques pioneered by Benjamin Graham. Our second goal, no less important, is to give you the confidence to buy those stocks and the patience to hold them to fruition. If you can achieve those goals, we’re confident that we’ll have a long and prosperous relationship together.

Benjamin Graham wrote two books that formed the basis for his value investing system. Roy recommends both of these to anyone who is interested in learning more about value investing:

Benjamin Graham’s classic book, “Security Analysis,” co-authored with David Dodd, laid the framework for the value investing system. Individuals and Wall Street professionals consider the timeless book, published in 1934, an investing bible. “Security Analysis” thoroughly explains Graham’s value investing methods, including how to value stocks, the margin of safety and guidelines for successful investing.

Benjamin Graham also penned “The Intelligent Investor” in 1949, and the book has since been called “by far the best book on investing ever written,” by Warren Buffet, one of Graham’s students and followers. Roy uses the criteria outlined in this book to select the stocks for the Classic Benjamin Graham Model Porfolio in the Cabot Benjamin Graham Value Letter.

Now, for the Q&A …

Question: What are your thoughts about the wild year of 2008?

Answer: Good riddance is my initial thought.  But 2008 shouldn’t be dismissed without further examination.  As a value investor, I pay less attention to the ups and downs of charts, the economy and the stock market.  Rather, I focus on the most undervalued stocks with solid long-term potential.  Recommending the most undervalued stocks in 2008, however, produced mediocre results as undervalued stocks became more undervalued since then.  I have changed one of our methodologies in Cabot Benjamin Graham Value Letter and I’m happy to report that our new method is working very well.  During the last six weeks, the Classic Benjamin Graham Value Model has increased 13.4% compared to a decline of 7.1% for the Dow Jones Industrial Average!

Question: What is your outlook for the stock market in 2009 and beyond?

Answer: The stock market below 9,000 is clearly undervalued.  My forecast calls for a test of the November lows, followed by a slow stock market recovery in the second half of 2009.  Be prepared for volatility, though.  My outlook beyond 2009 is positive.  The U.S. and other economies around the world will begin to recover.  A new bull market will evolve before the economy starts its recovery.  We will look back at this current debacle as the buying opportunity of a lifetime.

Question: What is your outlook for value stocks in 2009 and beyond?

Answer: Value stocks have more potential than growth stocks during the next year or so.  Long term (three to five years) prospects are excellent.  Most investors, including the professionals, base their decisions on the outlook for the next six to 12 months.  I prefer to look at a company’s prospects in three to five years.  The question is simple: Will the company be noticeably larger and more profitable three, four and five years from now?

Question: What’s one of your favorite value stocks right now and why?

Answer: To pick just one is extremely difficult.  There are so many factors (many of them unforeseen) that can affect the future price of a stock, and I always urge diversification, too.  Therefore, I’ll give you two good stocks that are clearly undervalued: Bucyrus International (BUCY) and Transocean (RIG).  Chances are very good that at least one of these companies will live up to its potential and the other will perform reasonably well.

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Bucyrus International (BUCY) is a leading international manufacturer of large-scale surface and belowground mining equipment, parts and services for mining coal, iron ore, copper, oil sands and other commodities.  A strong order backlog and new infrastructure demands from around the world will produce rapid 21% earnings growth during the next three to five years.  BUCY shares are grossly undervalued at 5.4 times current earnings per share (EPS).

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Transocean (RIG) is the world’s largest offshore drilling contractor with 66 deep-water drilling rigs and 68 shallow-water rigs working in all of the major offshore regions.  The company’s 2007 acquisition of Global Santa Fe added substantial debt to RIG’s balance sheet, but RIG is paying down the debt rapidly and should be in a position to begin paying dividends before the end of 2010.  EPS soared 67% in 2008 and will climb another 15% in 2009.  EPS growth is propelled by higher rental rates for deep-water rigs and a huge $41 billion backlog of contracts.  I believe oil prices will increase in 2009, which will help RIG even further.  At 3.3 times current EPS, RIG shares are an outstanding bargain.