May 29, 2024

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An Interest Rate See-Saw and a Flatter Market Ahead

The market has been good for a while. The S&P 500 is up roughly 11% YTD and about 30% since late October. But I expect choppier waters ahead.

The main driver of the S&P has been the technology sector, which is being driven higher by the artificial intelligence catalyst. Most of the rest of the market seems to be at the mercy of the interest rate narrative. And that seems to change every couple of weeks nowadays.

When investors become more optimistic about Fed rate cuts this year, stocks rally. When pessimism takes over, they falter. Stocks fell in April as sticky inflation made cuts less likely. But stocks took off again in May after the Fed said dovish things and the April CPI inflation number was as-expected. But the market has been struggling again this past week as Fed minutes indicated that some Fed people are considering rate hikes, God forbid.

The interest rate narrative seems to be changing more often than it had over the last year and a half. I still doubt there will be rate hikes this year. The economy is still solid while inflation remains well above the 2% target. But investors insist on periodically raising hopes for a cut this year. That back and forth on interest rate expectations is likely to persist for the next several months.

Of course, if rates don’t climb to new highs for this cycle and the economy stays away from recession, the market should be OK. Well-chosen stocks should be better than OK. But a likely flatter market in the months ahead will put a premium on dividends, which roll in regardless of what the Fed says.

In the meantime, two portfolio positions have stood out recently, NextEra Energy (NEE) and Qualcomm (QCOM). NEE is up 40% since March and 64% from the 52-week low. And it’s a utility. QCOM is up 35% in the last five weeks and has been making new all-time highs all month. Plus, Broadcom (AVGO) reports earnings in June, which could get that stock moving higher again.

Recent Activity

May 8
Purchased FS KKR Capital Corp (FSK) - $19.40
Realty Income (O) – Rating change “BUY” to “HOLD”
SOLD Xcel Energy Inc. (XEL) - $54.93

High Yield Tier

Brookfield Infrastructure Partners (BIP – yield 5.4%) – It’s been a wild ride on the current interest rate narrative for this infrastructure company. It was an awful first half of April as the stock fell about 20% in the first two weeks. But Brookfield reported strong earnings and the company has rallied to make up some of that dip since. It was going good for a while but has been sputtering over the last couple of weeks as the interest rate narrative turned sour again. But earnings were solid. The company also raised the next quarterly dividend by 6%. Solid earnings and a dividend raise are indicative of a company that is operationally strong. (This security generates a K-1 form at tax time.) BUY

Enterprise Product Partners (EPD – yield 7.2%) – This midstream energy partnership has pulled back somewhat over the last couple of months. But it is still in a slow uptrend that began almost four years ago. It hasn’t really pulled back but rather stopped going higher for now. Enterprise reported solid earnings with profits per share in line with estimates and revenues a lot better as new projects came to fruition and the distribution is well covered. The earnings didn’t reflect much change in an already solid story with good stock performance. I expect EPD to continue to pay the massive distribution and trend higher at a snail’s pace. (This security generates a K-1 form at tax time.) BUY

FS KKR Capital Corp. (FSK – yield 13.9%) - A stratospheric dividend and a stable price are what we signed up for and so far, we’re getting them. The ultra-high-yielding business development company reported solid earnings that were roughly in line with estimates. FSK also announced a second-quarter regular dividend of $0.70 per share and supplemental dividend of $0.05, reflecting confidence in the BDC’s ability to cover the payout and support shareholders. The market seems to have liked it and the stock is up since the earnings report. I’m hopeful the position will provide a great dividend income combined with covered call premiums soon. BUY

Main Street Capital Corporation (MAIN – yield 6.0%) – This business development company reported stellar earnings that handily beat estimates. It paid regular monthly dividend of $0.72 per share in the second quarter, marking a 6.7% increase year-over-year, as well as a $0.30 supplemental dividend. But the stock has pulled back a couple of percentage points since the report and is several dollars lower for the month of May. Perhaps there is some selling after the dividend and some good news. MAIN has also showed resilience in the tough markets. The safe and high yield pays dividends every single month with a strong possibility of supplemental dividends over the course of the year as well. BUY

ONEOK Inc. (OKE – yield 4.8%) – The stellar performing midstream energy company has pulled back from the high it made last week as the market has moved lower. The market choppiness might linger for several months but I still like midstream energy stocks in this environment. ONEOK raised guidance for 2024 and analysts expect 30% revenue growth and 29% earnings growth for this year over last year. The midstream company tends to be more volatile than its peers and is outperforming them in what has been a good market. BUY

Realty Income (O – yield 6.0%) – The floundering income REIT reported solid earnings last week with 33% revenue growth due to a recent acquisition and adjusted funds from operations growth of 5% per share. Metrics were pretty solid across the board, with high occupancy rates and an average 105% recapture on renewed leases. O didn’t get much of a bump so far from the report, but it has been holding its lows from February through April. The performance has been disappointing compared to its peers. It might be that this one won’t really move meaningfully higher until interest rates move meaningfully lower. It will be one to watch. HOLD

The Williams Companies, Inc. (WMB – yield 4.7%) – The midstream energy company reported excellent earnings and the stock rose to a new 52-week high, though it has pulled back over the last week. It soundly beat estimates on both net income and earnings per share and guided to the upper half of 2024 guidance. Williams also posted stellar 2.6 times dividend coverage. WMB broke out in the middle of February and the energy sector is still strong. It’s a stable high-yield stock and the company should deliver solid and dependable earnings in just about any economy. BUY

Dividend Growth Tier

AbbVie (ABBV – yield 3.8%) – ABBV pulled back substantially from the high made at the very end of March. It’s down 15% since. But that is typical behavior for this stock. It tends to have a surge and then consolidates for a while before the next upmove. The biopharmaceutical company reported earnings that beat expectations. But the market wasn’t too excited because the company also slightly lowered earnings per share expectations for next year. Although Humira sales fell, the other immunology drugs, Skyrizi and Rinvoq, grew at torrid paces with revenue of $3.1 billion for the quarter. The company is well on track to replace Humira revenues and return to robust growth in the years ahead. BUY

American Tower Corporation (AMT – yield 3.5%) – AMT has been bouncing around with interest rates. But the cell tower REIT struggled a little more because of a dividend cut (which was not impactful in a meaningful way) so AMT is still far from the 52-week high. American Tower rallied strongly after the REIT beat estimates on both revenue and earnings with 9.8% adjusted funds from operations per share growth over last year’s quarter. The REIT also raised guidance for 2024. It’s a solid REIT with stronger growth than most of its peers, but interest rates will be the biggest determinant of performance in the near term. BUY

Broadcom Inc. (AVGO – yield 1.5%) – AVGO got a bump from the better-than-expected Nvidia earnings report last week. But just a little one. Nvidia has been a bellwether for the AI catalyst and the strong earnings bode well for Broadcom. The main event is Broadcom’s earnings report that is coming on June 12. Although AVGO recently hit a new high, it has been mostly bouncing around for the last few months after having another huge surge earlier in the year. Earnings could be a catalyst to move the stock higher. HOLD

Digital Realty Trust, Inc. (DLR – yield 3.4%) – The data center REIT reported mixed results from earnings as profits slightly exceeded estimates and revenues lagged somewhat due to higher costs. DLR moved down slightly after the report but is still up in May. The report was mostly uneventful except for a statement by management that the REIT is seeing accelerating demand for AI-oriented opportunities. A big reason the stock was added to the portfolio was the additional growth catalyst provided by AI. The statement indicates that is happening. BUY

Eli Lilly and Company (LLY – yield 0.7%) – This superstar pharmaceutical company stock hit a new all-time high last week. But LLY has mostly leveled off since the middle of February. Lilly significantly raised guidance for this year in the earnings report. The main reason is that its weight loss drug revenues obliterated forecasts for the quarter. The company is also aggressively expanding production for future quarters and raised its 2024 revenue projections by $2 billion. The weight loss drug is a monster and looks like a mega-blockbuster and the Alzheimer’s drug should get the FDA nod in the next few months. HOLD

McKesson Corporation (MCK – yield 0.5%) – MCK moves slowly but trends unmistakably higher. The wholesale pharmaceutical giant reported mixed earnings but also indicated earnings growth of 14% to 17% for this year and the stock has trended higher since the report and hit a new all-time high last week, although it has pulled back since. MCK just continues to forge quietly higher while no one seems to notice. The pharmaceutical supply chain goliath dominates a market that grows all by itself because of the aging population. BUY

Marathon Petroleum Corporation (MPC – yield 1.9%) – The country’s largest refiner fell significantly after reporting lower earnings amid record maintenance shutdowns. But things aren’t nearly as bad as they seem. The company actually beat earnings and revenue forecasts. Earnings are down because of reduced crack spreads versus last year’s near record first quarter but profits are still historically high. The maintenance shutdowns are necessary and set the company up well for increased volumes ahead of the driving season. The stock was red hot, then turned ice cold, but has been leveling off this month. HOLD

Qualcomm Inc. (QCOM – yield 1.6%) – Where it stops, nobody knows. The mobile device chip maker is continuing its torrid advance since the earnings report last month. QCOM has soared over 35% since April 19. Earnings beat estimates and the company raised earnings guidance for 2024. But the real excitement is the growing talk about artificial intelligence coming to smartphones and Qualcomm as a major beneficiary of the upgrade cycle. It has been a while since phones had a significant upgrade and sales growth has been dwindling. But more analysts are contending that an AI-driven super cycle is coming soon. Qualcomm is at the leading edge of chips that enable AI for smartphones and PCs and should benefit mightily. BUY

UnitedHealth Group Inc. (UNH – yield 1.5%) – The stock reversed its negative course after earnings put fears about the hacking to rest. UnitedHealth reported earnings last month that soundly beat expectations with an 8.6% revenue rise and a better than 10% increase in adjusted earnings from last year’s quarter. The company also issued strong guidance. The stock rose about 20% after the report but has given back 8% over the past week. There isn’t any bad news that seems to be dragging the stock lower. This sort of bounciness is not uncommon. BUY

Visa Inc. (V – yield 0.8%) – This payment processing global goliath reported stellar earnings again. It reported a 10% jump in revenue and a 20% increase in adjusted earnings per share over last year’s quarter. It is still thriving from cross-border transactions and benefits from the recent economic news. Visa also reported upbeat guidance for the rest of this year. Although performance has leveled off over the past few months, V should be solid if the economy holds up. HOLD

Safe Income Tier

Alexandria Real Estate Equities, Inc. (ARE – yield 4.3%) – The recent good interest rate news hit a wall over the past couple of weeks. After bouncing around with the interest rate narrative for the past few weeks, this one-of-a-kind life science property REIT was having a good month in May. But it has given up most of the gains. This is a solid REIT that reported strong earnings and raised the dividend in the last quarter. ARE will likely bounce around somewhat at the mercy of the interest rate narrative and not significantly surge higher until rates muster a sustained move downward. BUY

NextEra Energy (NEE – yield 2.7%) – After two years of subpar performance amid inflation and rising interest rates, this combination regulated and alternative energy utility is back. NEE is making up for lost time, with a 40% upside move since early March and a 64% move from the October low. That’s not too shabby for a utility stock. The stock has continued to move higher after a solid earnings report in the recent quarter. The strong growth utility story is still very much alive. NEE had been a superstar performer before inflation and rising interest rates. It provides both safety from its best-in-class regulated utility business and growth from its considerable clean energy business. BUY

USB Depository Shares (USB-PS – yield 5.7%) – This preferred stock just weathered a strong interest rate storm and has still returned about 15% since being added to the portfolio. I believe it is unlikely that rates eclipse the high of this cycle. Even if they do, this security can handle it well. It’s also quite possible that rates fall from here and this stock behaves very well. BUY

Vanguard Long-Term Corp. Bd. Index Fund (VCLT – yield 5.1%) – Ditto for VCLT. It doesn’t like rising rates. But that’s OK unless rates rise to new levels beyond what has been seen in this cycle. I believe that VCLT is still well positioned after the worst two years for fixed income ever. BUY

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