2 'turnaround' stocks to watch in May

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Diamonds

Buying stocks which have recorded declining share prices can be a sound strategy. After all, it means there may be a wider margin of safety and future returns could therefore be significantly higher. Clearly, the reasons for any share price falls must be identified and overcome. However, for investors seeking to generate index-beating returns in the long run, buying bargain stocks can be a shrewd strategy.

Recovery potential

Since the start of the year, shares in Petra Diamonds(LSE: PDL) have slumped by 17%. While disappointing, the company's long-term share price outlook remains relatively positive. Evidence of this was seen on Monday when it released a production update for the third quarter of the year. Petra Diamonds was able to make further progress with its expansion programmes, with higher run of mine (ROM) grades achieved during the period.

While production during the quarter was flat, it was able to deliver a 15% increase in production for the first nine months of the year. This helped to push sales 27% higher, with improved rough diamond prices also boosting the company's top line. Furthermore, underground expansion programmes remained in line with expectations. And with cash at bank rising to $66.2m from $39m in March 2016, the long-term outlook for the business appears to be positive.

Looking ahead, Petra Diamonds is forecast to record a rise in its bottom line of 32% this year, followed by further growth of 74% next year. This puts it on a price-to-earnings growth (PEG) ratio of just 0.1, which indicates that a recovery could be on the cards. The company's financial performance may be volatile, but on a risk/reward basis its now lower share price suggests a buying opportunity.

Strategy progress

Also reporting on Monday was energy storage technology company RedT Energy(LSE: RED). Although its financial performance in 2016 was in line with management expectations, its share price has fallen by around 41% in the last six months.

The company's transformation during 2016 saw it move from being a technology development company to delivering a manufactured, commodity product. It is now ready to move into a commercialisation phase and since it has no debt and a cash balance of EUR17.2m, it appears to have the funding required to move ahead with its growth strategy.

Clearly, there is some way to go until the business is profitable. In the current year and next it is forecast to record losses. However, it has proven technology which could become increasingly popular in future years.

Furthermore, RedT Energy has an active customer pipeline of EUR246m and a clear strategy through which to take its product to market. Therefore, while at the riskier end of the investment spectrum, the stock could be of interest to less risk averse investors seeking a long-term opportunity to outperform the wider market.

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Peter Stephens has no position in any shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.