Good news was able to outrun the problems in 2021. But the problems are catching up. The economy ran so hot because if was picking up the slack from the pandemic and making up for lost time. But that slack will soon run out.
We are likely heading towards a more normal environment on the other side of the pandemic recovery. It is highly unlikely that market returns going forward are as high as they have been. That pace can’t be sustained. We are likely headed for choppier waters and a more sideways market where stock picking should be more crucial.
Inflation and rising interest rates may not be great for the overall market, but certain sectors can thrive in such an environment. In this issue, I highlight one such stock. The stock should shine on the other side of the pandemic recovery that lies ahead in the new year.
This Month’s Featured Stock
Profit from a Stock Built for 2022
We come to the end of another year again. But more importantly, it’s the beginning of a new year.
This is the time of year when predictions are everywhere. Wall Street prognosticators come out of the woodwork to weigh in on what lies ahead. It’s kind of silly. Predicting the future is impossible. The pandemic proved that.
But reflection is useful. Calendar years break down the passage of time into bite-sized increments. The transition of years provides a good excuse to reflect on the bigger picture of where we were and where we might be going. It’s a great time to stop the train and get off and look around.
Where have we been?
The S&P 500 is up over 100% from the bottom in March of 2020. That means the market added as much value in the last twenty months as it had accumulated from its founding until March 2020. Even if you forget about the pandemic, the market is up 40% from the pre-pandemic high in February of 2020.
This past year was about recovering economic growth, enabled by the vaccine and reopening of the economy. The growth was further fueled by easy monetary policy, massive government stimulus and low interest rates that made stocks the only game in town for decent returns. All of this sent corporate earnings soaring.
Earning growth has been remarkable. Estimates for earnings growth for full-year 2021 are around 40%. That’s a combination of easy comparisons to lockdown quarters last year and the economy making up for lost time in 2021.
All the magnificence outweighed investor concerns over growing problems like supply-chain shortages and inflation. But those problems are getting worse. Also, the Fed is already tapering its bond buying program and interest rates will likely be raised faster than previously expected to counter inflation.
Good news was able to outrun the problems in 2021. But the problems are catching up. The economy ran so hot because it was picking up the slack from the pandemic and making up for lost time. But that slack will soon run out.
We are likely heading towards a more normal environment on the other side of the pandemic recovery. It is highly unlikely that market returns going forward are as high as they have been. That pace can’t be sustained. We are likely headed for choppier waters and a more sideways market.
That doesn’t mean its gloom and doom for 2022. We are still likely in the early stages of a recovery and bull market. But it will be a phase on the other side of a huge market surge. The overall market may not deliver fabulous returns, but certain sectors still can. There will be winners and losers. Stock picking should be more important.
Inflation and rising interest rates may not be great for the overall market, but certain sectors can thrive in such an environment. In this issue, I highlight one such stock. The stock should shine on the other side of the pandemic recovery that lies ahead in the new year.
Monthly Activity
November 10
KKR & Co. (KKR) – Rating change “HOLD” to “SELL 1/2”
November 24
Qualcomm (QCOM) – Rating change “BUY” to “HOLD”
December 1
Verizon (VZ) – Rating change “HOLD” to “SELL”
Chevron Corp. (CVX) – Rating change “BUY” to “HOLD”
Valero Energy (VLO) – Rating change “BUY” to “HOLD”
December 8
Buy Visa (V) stock
What to Do Now
The market was rolling along just fine. It seemed poised for a strong finish to the year. Then the new virus strain hit and sent stocks reeling. But that looks like a very temporary interruption now.
Preliminary reports that the Omicron virus strain is very mild and unlikely to generate further lockdowns has sent stocks higher again, at least for now. The indexes are right back where they were before. It looks like the market is ready to resume its ascent.
The cyclical story is alive again. A strong economy with inflation and likely rising interest rates has reignited the cyclical rally. Energy positions Valero Energy (VLO), ONEOK (OKE), Chevron (CVX) and Enterprise Product Partners (EPD) are up big this week. Financial positions KKR & CO. (KKR) and U.S. Bancorp (USB) are also up strongly.
Of course, a few good days does not confirm a sustained rally. The virus tune could still change. VLO and CVX were downgraded to a HOLD last week in an exercise of caution as virus information unfolds. We will keep those conservative ratings in place until the recent virus optimism proves to be enduring.
The rest of the year looks good again. We will stay invested but remain somewhat cautious of changing headlines.
FEATURED STOCK
Buy Visa (V)
Visa is a global payments technology company that provides a digital currency instead of cash and checks to individuals and business in more than 200 countries and over 160 currencies. It is the largest payment processor in the world. Its systems can process 65,000 transactions per second.
It’s natural to refer to Visa as a credit card company. But that isn’t really true because Visa doesn’t loan money. You can charge things with a Visa card instead of using a debit, but it is the sponsoring bank that loans the money, not Visa. It’s the bank’s problem if someone can’t pay. Visa simply collects a fee on any debit, credit or mobile transaction. It rings the register every time individuals and businesses all over the world make a digital transaction with its cards.
That’s a good place to be because the global trend toward cashless transactions is undeniable and unstoppable. In fact, digital payments surpassed cash transactions on a global basis a few years ago. The trend will accelerate going forward and Visa is in the ideal position to benefit.
This is a great stock to own over the long term. It has a commanding market share in the electronic payment industry that still has plenty of runway for growth. Visa’s size and scale should allow the company to improve its already sizable margins. The stock performance reflects these facts. V stock returned more than 797% over the last ten years, more than double the performance of the S&P 500 over the same period.
But the stock has underperformed lately. V recently pulled back over 40% from the 52-week high. That’s what makes it a great opportunity now.
There are several reasons for the pullback. First, although the stock gained a lot after the pandemic low, it only kept pace with the overall market. Earnings recovered after the pandemic, but not as much as some other companies. The reason is that Visa does a lot of international business, and the recovery overseas has not kept pace with the American recovery. The very profitable cross-border transactions have been particularly hard hit because of continuing travel restrictions.
In November, V sold off because Amazon (AMZN) announced it will stop accepting Visa credit cards issued in the U.K. starting in late January 2022. The skirmish is regarding high interchange fees that increased as European Union regulations stopped applying because of Brexit. Then the stock took another hit because of fears of further lockdowns and travel restriction from the Omicron variant.
It seems at this point that the virus is unlikely to be a big problem. And the other two problems are overblown.
First, the international economy will rebound. In fact, much of the rebound overseas still lies ahead. Travel will return. It always does. The U.K. issue is incredibly minor. It doesn’t even apply to debit cards and the revenue loss will be tiny. The real risk is that other companies might also do the same thing. But that’s highly unlikely. The problem is U.K.-specific, and few companies can afford to cut out Visa.
This is a highly regarded stock. In fact, 35 of the 39 analysts who cover the stock rate it a “buy” or “strong buy” with an average price target of 274.50 per share. That’s more than 35% higher than the current price.
V is a great stock for the longer term. The fact that prospects line up this well in the short term make this an exceptional buying opportunity.
Portfolio At A Glance, Portfolio Updates and Dividend Calendar
Portfolio at a Glance
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Portfolio Updates
High Yield Tier
The investments in our High Yield Tier have been chosen for their high current payouts. These investments will often be riskier or have less capital appreciation potential than those in our other two tiers, but they’re appropriate for investors who want to generate maximum income from their portfolios right now.
AGNC Investment Corp. (AGNC – yield 9.4%) – This latest Omicron market dip pulled this mortgage REIT below the resistance level of around 16 per share. However, the market is recovering, and circumstances are shaping up well for AGNC. While the yield curve has flattened recently, there are good reasons to believe it will steepen going forward. Inflation is getting worse, and the Fed is already tapering its bond buying, and have stated an intention to expedite the tapering. BUY
Blackrock Enhanced Capital and Income Fund (CII – yield 5.8%) – This covered call ETF tends to perform on par with the overall market. The market has been dicey this past week because of the new virus strain. But the market appears to be shaking off this latest worry. We are likely headed toward more subdued market returns than we have seen over the last 20 months, and the great income paid by CII should make it popular with investors. BUY
Compass Diversified (CODI – yield 5.0%) – Although it doesn’t move fast, this Business Development Company has been consistently trending higher since the pandemic lows of 2020. Compass also had very strong earnings growth over the last year because of new acquisitions as well as the economic recovery. The stock has been volatile of late. It got hit hard in the Omicron selloff but is recovering very quickly with the overall market. It was up 7% on Monday alone. It’s a cyclical stock because it hold small businesses and it will move with the fortunes of cyclical stocks. BUY
Enterprise Product Partners (EPD – yield 8.5%) – The performance of this midstream energy partnership continues to be disappointing. It still has decent returns for the year but it doesn’t compare to the fantastic performance of the other portfolio midstream company ONEOK (OKE). ONEOK is growing faster because it operates strictly in the natural gas realm. But EPD should still have more upside potential than downside risk from here. And the sky-high 8.5% yield is very safe. BUY
ONEOK Inc. (OKE – yield 6.2%) – This has been one of the very best midstream energy stocks. It that has vastly outperformed its peers. The stock has returned about 70% YTD. However, it does bounce around with the fortunes of cyclical stocks and the energy sector in the near term. It’s in a great business as demand for natural gas, as the cleanest burning fossil fuel, remains strong and likely will continue. The stock should trend higher in the quarters ahead as it is still below the pre-pandemic price with much higher earnings. HOLD
Realty Income (O – yield 4.4%) – This REIT was chosen for the portfolio because it is a legendary income stock that was selling at a cheap valuation in the pandemic. Its retail properties tend to be essential and were little affected by the lockdowns. But the company has also gotten a lot better over the last year. The acquisition of VEREIT should immediately boost the bottom line and accelerate earnings growth.
The merger also created a spinoff company composed of the combined office property holdings of the two companies call Orion Office REIT (ONL). You should have received shares of the new company on November 12th. The shares are a freebee, and an extra and unexpected distribution. The position of this newsletter is to sell the shares upon receipt and consider the proceeds an extra cash distribution. HOLD
STAG Industrial (STAG – yield 3.3%) – This industrial REIT and Energizer Bunny stock is at yet another new all-time high. It seems to just climb through thick and thin with a few bounces along the way. This monthly paying dividend stock has returned over 55% in the past year, which is more than double the return of the overall market. It’s also returned 120% since being added to the portfolio. The industrial space is a good one because of a very favorable supply/demand dynamic that should last. The stock isn’t cheap but it keeps on going for now. HOLD
Dividend Growth Tier
To be chosen for the Dividend Growth tier, investments must have a strong history of dividend increases and indicate both good potential for and high prioritization of continued dividend growth.
AbbVie (ABBV – yield 4.7%) – While most investors were focused on other things, the biopharmaceutical stock has quietly broken out to a new 52-week high and is now within bad-breath distance of the all-time high. The stock has been on a pronounced uptrend since the summer of 2019. Fantastic earnings recovered the stock from a selloff in late summer over the FDA announcement of a warning label for one of its most promising drugs. ABBV can bounce around in the near term, but I expect the longer-term uptrend to continue. BUY
Broadcom Inc. (AVGO – yield 2.6%) – This technology stalwart cooled off after going on a tear from early October until the middle of November. But it’s back on a tear this week and back up to the high. Business has been booming and I expect the stock to continue trending higher over the longer term. It’s also worth noting that Broadcom reports earnings in a few days. That could get the stock going again. BUY
Brookfield Infrastructure Partners (BIP – yield 3.6%) – This infrastructure partnership is in an unmistakable longer-term uptrend, albeit a bouncy one. It soars to new highs and then pulls back, rinse and repeat. At this point, it appears to have hit the low in the retreat from recent highs and is now on its way back up. But that’s all short-term noise. It is a great defensive business and earnings should accelerate in the quarters ahead because of a recent acquisition. Let’s just keep bouncing higher with this one. HOLD
Chevron Corp. (CVX – yield 4.7%) – Last week CVX was reduced to a HOLD because of uncertaintly surrounding the new virus strain. The rating downgrade was just in time for the stock to run back to a new all-time high. Oil prices plummeted amidst the new virus worries. But those fears are abating as preliminary data indicate the new strain is mild. Oil prices are up strongly this week. Demand should remain strong and prices high as long as there are not new lockdowns. CVX should have another surge in the months ahead. HOLD
Eli Lilly and Company (LLY – yield 1.4%) – The biopharmaceutical giant has been pulling back again after a recent surge. I’m not sure why. Recent news is that Lilly had its covid treatment approved for kids. That should boost earnings. Everything else looks rock solid at the company. Next year there is a great chance its Alzheimer’s drug gets approved and earnings are on track for another good year. HOLD
KKR & Co. Inc. (KKR – yield 0.8%) – This alternative investment asset manager has really cooled off. That was to be expected, which is why half the position was sold last month. KKR had run up 40% in a month on blow-out earnings. It had pulled back 11% from the high. But it has gotten hot again this week as cyclical stocks are rallying again on news that the virus isn’t severe. The stock has returned over 60% since being added to the portfolio in March. Prospects still look bright for the stock as the asset management business is booming. HOLD
Qualcomm Inc. (QCOM – yield 1.5%) – The recently smoking-hot chipmaker looks like it still wants to go higher. QCOM had a huge surge in November on great earnings, raised guidance and a slew of analyst upgrades. It was up 40% in a month. The surge was interrupted by external factors of a tech selloff and then the Omicron turbulence. But the stock is up big again this week. Let’s see if it keeps going. HOLD
Spectrum Brands Holdings, Inc. (SPB – yield 1.7%) –This stock pulled back almost 7% during the recent carnage. There really isn’t any good reason for the pullback. It sells home products. If the virus gets bad and results in more lockdowns, sales will likely go higher. Inflation is a bigger worry. But the company seem to be handling it well. The stock got a bunch of upgrades and price target raises after earnings and guidance exceeded expectations. HOLD
U.S. Bancorp (USB – yield 3.3%) – The regional bank stock kind of got clobbered in the last half of November. The yield curve flattened and then the virus news pulled cyclical stocks down more. USB has been recovering in December so far. Business at the bank is booming and will likely get even better as interest rates likely trend higher. The Fed tapering along with rising inflationary pressure is likely to put upward pressure on rates. And the economy should remain strong for a while. These things should be great for USB and the stock price should reflect it in the months ahead. HOLD
Valero Energy Corp. (VLO – yield 5.5%) – This is a very volatile energy stock that should move higher in the months and quarters ahead. Demand for gasoline and diesel is strong and will likely remain strong for a while. Prices are high and likely to rise. This should be a great formula for booming refining profits, but VLO is still well below the pre-pandemic highs. The stock is also at the low point of the recent range. It’s been a frustrating recover for VLO, but I believe patience will pay off and we should see a much higher price six months from now. HOLD
Safe Income Tier
The Safe Income tier of our portfolio holds long-term positions in high-quality stocks and other investments that generate steady income with minimal volatility and low risk. These positions are appropriate for all investors, but are meant to be held for the long term, primarily for income—don’t buy these thinking you’ll double your money in a year.
Invesco Preferred ETF (PGX – yield 4.9%) – After falling during the pandemic, this preferred stock ETF has recovered. This preferred stock ETF is much less volatile than the stock market while providing a big yield. It also adds diversification as preferred stock performance is historically not correlated to the stock and bond markets. HOLD
NextEra Energy (NEE – yield 1.7%) – Look out. Here comes NEE. This alternative energy utility company stock had been having a lousy year as investor focus moved toward cyclical stocks and conventional energy. Alternative energy investments had a subpar recovery. But NEE has caught fire again. It’s up about 17% in the last two months and has been making a series of new all-time highs. But I still believe better days lie ahead. The market environment should normalize next year and the growth in alternative energy should again gain stature as an investment theme. NEE is a fantastic way for conservative investors to play the trend. BUY
Xcel Energy (XEL – yield 2.8%) – This alternative energy utility continues to make a sustained, yet choppy, move above the recent low. It is likely the normal range pattern will deliver higher prices in the months ahead. Beyond that it should benefit as the economy normalizes after the pandemic recovery. And beyond that, XEL should benefit as alternative energy comes back into vogue. BUY
Dividend Calendar
Ex-Dividend Dates are in RED and italics. Dividend Payments Dates are in GREEN. Confirmed dates are in bold, all other dates are estimated. See the Guide to Cabot Dividend Investor for an explanation of how dates estimated.
The next Cabot Dividend Investor issue will be published on January 12, 2022.