December 6, 2023

A More Sober Rally Ahead

The superb rally that began after October is fading.

November was the best month for the S&P 500 in over a year. But now some reality is starting to set in. Wall Street took the good news about peak interest rates to another level and started pricing in Fed rate cuts early next year. The market is pulling back after the Fed dismissed that notion.

It’s not the first time in this Cycle that Wall Street priced rate cuts into the market, only to have to price them out again later. The fact is that the Fed is going to be a lot stingier with rate cuts this time around than in past cycles because of inflation.

Sure, if the economy stumbles toward recession or close to it next year, the Fed will probably cut rates. But the sour economy would likely more than offset the benefit of rate cuts to stock prices, And the market seems to be pricing in rate cuts with a soft landing. That is highly unlikely to happen.

Inflation is historically a very sticky problem. It tends to come roaring back if you take your foot off its neck too soon. That’s what happened several times in the 1970s when the Fed eased too early. The Fed is aware of this and doesn’t want this inflation to be a problem for the rest of the decade, especially since the problem is partly of their own making.

The market is still good, but it’s not that good. The likelihood that rates have peaked, and the still-solid economy is a huge benefit. The problem of rising inflation and interest rates that had pulled this market down is largely gone. That’s still a benefit even if the Fed doesn’t cut interest rates next year.

Stocks are still in an uptrend that began after October. And the rally is finally broadening out. Many of the defensive portfolio stocks that struggled all year are coming roaring back. And several stocks are hitting new highs.

Recent Activity

November 8^th
Purchased Marathon Petroleum Corporation (MPC) – $143.50
USB Depository Shares (USB-PS) – Rating change “HOLD” to “BUY”
Vanguard Long-Term Corp. Bd. Index Fund (VCLT) – Rating change “HOLD” to “BUY”

November 22^nd
SOLD Hess Corporation (HES) – $144.40
SOLD Tractor Supply Company (TSCO) – $198.44

December 6^th
NextEra Energy, Inc. (NEE) – Rating change “HOLD” to “BUY”

High Yield Tier

Brookfield Infrastructure Partners (BIP – yield 5.6%) – This infrastructure partnership has been moved from the Dividend Growth Tier to the High Yield Tier. The 5.6% yield makes it a high-income stock and the rise in yield is prompted by lousy performance. BIP has been bludgeoned over the past two years by rising interest rates. But things are changing. It is likely rates have peaked and interest rate-sensitive stocks have been rallying. BIP has rallied about 30% off the low made at the end of October. If the economy slows, BIP could be a star again in 2024. (This security generates a K1 form at tax time). BUY

Enterprise Product Partners (EPD – yield 7.5%) – This midstream energy partnership has been trending very slowly higher all year. It bounces around in an upward trend. The results haven’t been exciting, but EPD has returned 20% YTD, and that massive yield is safe, supported by 1.7 times cash flow coverage. In fact, Enterprise just increased its distribution by 5.3% in the last quarter. The growth in profits and distributions is likely to continue as the partnership is expanding operations in the high-growth Permian basin. (This security generates a K1 form at tax time). BUY

ONEOK Inc. (OKE – yield 5.4%) – This midstream energy company has spiked to the very upper echelons of its recent range and is now just pennies from the 52-week high. ONEOK reported solid earnings with adjusted EBITDA growth of 11% over last year’s quarter as natural gas volumes were up 12%. The company also raised the guidance on projected consolidated earnings going forward. I expect more of the same solid performance going forward. BUY

Realty Income (O – yield 5.5%) – This has been one of the longest periods of sustained market underperformance for this legendary income REIT in a long time. The stock is still light years below the pre-pandemic high despite higher earnings. It’s not far from the pandemic low. But it has a very compelling valuation and has recently obtained upward momentum as well. O is up over 20% from the low made at the end of October. Peak interest rates should be a huge benefit for the REIT sector that could prompt a sustained rally. BUY

The Williams Companies, Inc. (WMB – yield 4.8%) – The natural gas pipeline company just made a new 52-week high at the beginning of this month. Williams reported strong earnings growth and delivered good news in terms of acquisitions and expansions. It pays a well-supported 4.8% yield (with 2.38 times cash flow coverage) in a business with steady demand even in tough times. Its recent acquisitions and expansions ensure more solid growth going forward all the way out to 2028. BUY

Dividend Growth Tier

AbbVie (ABBV – yield 4.3%) – The biopharmaceutical company had a nice pop, up over 5% in the last few days. The stock is up because AbbVie announced it is buying biotech company ImmunoGen (IMGN) for $10.1 billion in cash in a deal slated to close early next year. ImmunoGen is a cancer therapy specialist that fits nicely with AbbVie’s pipeline. AbbVie is paying double the current share price, but the market expects the acquisition to give AbbVie a further leg up with its already robust pipeline.

Its two new biosimilar drugs Rinvoq and Skyrizi grew sales over 50% in the last quarter and the company expects these drugs alone to eventually surpass Humira’s peak sales. The stock sells at a low valuation and investors sense that it might turn the Humira corner sooner ahead of a very bright future. The stock may seem like it’s dead money but once we get through this year things can improve dramatically. BUY

Broadcom Inc. (AVGO – yield 2.0%) – The technology infrastructure behemoth has been pulling back for the last several weeks. It retreated about 8.6% from the high in November and returned to near the old high before the surge higher in October and November. The company reports earnings on Thursday and investors may be taking profits ahead of the report. It is expected to report continued strong growth in the AI business. But Nvidia (NVDA) didn’t get much of a bump after its earnings and the same may happen with Broadcom. HOLD

Digital Realty Trust, Inc. (DLR – yield 3.5%) – This data center REIT just made another new high last Friday. Even though REITs have been terrible this year, DLR has now returned over 40% YTD. It looks like REITs have bottomed out and are on their way higher as interest rates have likely peaked. Digital also has the additional catalyst of increasing AI spending and is getting a boost from the AI craze. It has upside leverage with falling rates as well as AI. BUY

Eli Lilly and Company (LLY – yield 0.8%) – Weight loss drug Mounjaro was approved by the FDA last month. Some analysts estimate it could potentially be a $20 billion per year drug. That would match the best-selling drug ever. It still has its Alzheimer’s drug up for FDA approval in the months ahead. LLY continues to hover around the high with no pullback of any significance. Investors are unlikely to sour on the stock with its new drugs and expected 25% annual earnings growth in the years ahead. HOLD

Intel Corporation (INTC – yield 1.2%) – INTC is pulling back from the recent high. That’s normal after a surge of this magnitude. The chipmaker recently hit a 17-month high and was up over 27% in a month and about 70% YTD. Earnings indicate that Intel’s turnaround is well on track. It has promising new chips coming out in high-growth areas and its foundry business could be huge. The stock got dirt cheap, and investors are increasingly willing to bet on the company’s future. I believe in the company’s future. But the stock is likely to take a breather. BUY

McKesson Corporation (MCK – yield 0.5%) – This massive pharmaceutical distributor hasn’t done much since it was added to the portfolio in October. Other sectors have taken the spotlight in the market rebound. But MCK has returned over 23% YTD in a year when most healthcare and other defensive stocks have struggled mightily. It has a business that will continue to thrive even if the economy slows next year. It’s a defensive and growing business and the stock should be a great holding in any environment. BUY

Marathon Petroleum Corporation (MPC – yield 2.2%) – This newly added oil refiner has been hanging around near the top of the recent range since the end of the summer. MPC has blown away the performance of its peers and the overall market for several years. Even though the energy sector is negative YTD, MPC has managed a better than 32% return. While the environment can vary from quarter to quarter, it should remain an overall profitable environment for refiners over the next several years. BUY

Qualcomm Inc. (QCOM – yield 2.5%) – The struggling chipmaker stock got a 27% bump in a little over a month. While the overall tech sector rallied on falling interest rates, Qualcomm was also helped by the earnings report. Qualcomm is introducing new AI chips for PCs and smartphones that could be big sellers next year. Also, strong smartphone sales in China are indicating that phone sales have already bottomed. QCOM is still lagging the overall tech sector this year as it doesn’t benefit as immediately from AI as some other companies, and it is still working through a lull in smartphone demand. It’s looking like 2024 could be a much better year. BUY

UnitedHealth Group Inc. (UNH – yield 1.4%) – This healthcare insurer has a spectacular long-term track record but has struggled somewhat with just a 5% return this year. Most healthcare stocks have struggled in the 2023 market for a host of reasons. But those reasons are unlikely to persist going forward. UNH has been rejuvenated of late and is on the move. It’s up 16% in the last few months and just hit a new 52-week high last Friday. UNH could continue to move higher and make up for lost time as new stock comes back into favor. BUY

Visa Inc. (V – yield 0.8%) – This payment processing company is hitting new all-time highs. It has been one of the very best financial companies to own but was held back by the pandemic and last year’s bear market. But earnings have been stellar. While the weakening consumer is a negative, international business and travel is thriving and more than offsetting the negatives for now. It has a strong business that should remain solid in all but a recessionary environment. HOLD

Safe Income Tier

Rating change “HOLD” to “BUY”

NextEra Energy (NEE – yield 3.2%) – NEE has been bouncing around. But the stock is still in a strong uptrend that began in early October and it’s up over 25% from the 52-week low. The clean energy utility delivered solid earnings and management reiterated previous growth projections and said the company expects to deliver earnings near the top of the expected range through 2026. This stock is still very oversold, especially considering interest rates have likely peaked. The stock has likely bottomed out and is now in a positive trend. BUY

USB Depository Shares (USB-PS – yield 5.8%) – Recent developments have been great news for this and other fixed-rate investments. Interest rates appear to have peaked which means the selling is over in fixed income, and prices are likely to rise as rates fall. The price has soared 14% since the end of October. And USB-PS has now returned over 7% since being added to the portfolio a little over a year ago despite the rising interest rate environment. BUY

Vanguard Long-Term Corp. Bd. Index Fund (VCLT – yield 5.3%) – Peaking interest rates are also a huge positive for VCLT, as evidenced by the recent 12.6% price surge. This long-term bond fund is very sensitive to interest rates. It held up relatively well in the rising rate environment and now it looks like rates are trending lower. BUY

Xcel Energy (XEL – yield 3.4%) – This clean energy utility stock has been trending higher since the beginning of last month. The low may be in. XEL had a convincing 13% move off the low. But, like NEE, XEL came under pressure recently as analysts expressed concern about the solar energy business amid the current high interest rates. But this is one of the best utility stocks to own and the recent debauchery may prove to be very temporary. XEL still sells near the lowest levels of the past several years and now has positive momentum. BUY