September 7, 2022

Is the Main Problem Inflation or Recession?

The market has closed lower for three straight weeks and declined about 9% from the August high as we head into September. Where do we go from here?

The market is having trouble deciding. It’s still unclear what the primary threat or driver will be. Is the main problem inflation or recession? It remains to be seen if inflation has indeed peaked and if it’s headed lower. The state of the economy is also unclear. Is this a recession after two consecutive quarters of GDP contraction? It is also an open question if the economy remains buoyant or is declining from here.

Perhaps this month will clarify things. But investors are still unsure whether prices and interest rates are still rising significantly or if the economy going down the tubes. Each situation implies a different strategy. It could be a combination of both, but the market usually has one main issue.

Things are still a bit of a mess, and it is difficult to see how stocks can gain significant upside traction looking ahead to high inflation and an aggressive Fed or a deteriorating economy and a less aggressive Fed. Under the circumstances, the portfolio still has a very defensive posture with 9 of the remaining 13 stock positions in defensive, high dividend paying positions.

There will be opportunities in the future that this newsletter will exploit. But until some questions get answered we’ll play it safer.

High Yield Tier

Enterprise Product Partners (EPD – yield 7.2%) – The recent market downturn has taken just about everything with it including the midstream energy companies. But these companies are ideally suited for the current environment. They all sell at cheap valuations with high and safe dividends and operate in an industry with very favorable dynamics. Also, these midstream companies can endure both recession and inflation. (This security generates a K1 form at tax time). BUY

ONEOK Inc. (OKE – yield 6.3%) – OKE tends to be more volatile than the other midstream energy positions in the portfolio. It’s having a subpar year compared to its peers. That’s because it had a huge year last year, returning about 70%, and earnings are not growing as much as other energy companies because they never went down much during the pandemic. Natural gas demand tends to be more resilient in a recession. This is one of the few companies that can endure inflation or recession or both. BUY

Realty Income (O – yield 4.4%) – This legendary monthly income REIT has cooled off after a 20% surge higher from the June low. But O tends to move up and down a lot on a slow, longer-term trajectory higher. Earnings rose 10.2% and the company is navigating inflation and recession like a champ. The occupancy rate for its consumer staple tenants is the highest in 10 years and the company increased guidance. HOLD

The Williams Companies, Inc. (WMB – yield 5.0%) – Although this newest addition to the portfolio has dipped a little bit lately in the turbulent market, the uptrend since the June low is still intact. WMB tends to trend higher in the absence of indiscriminate selling in the overall market. Operations are strong. The recently reported quarter featured a whopping 48% earnings per share spike over last year’s quarter. Williams also increased 2022 earnings guidance. BUY

Dividend Growth Tier

AbbVie (ABBV – yield 4.1%) – The biopharmaceutical company stock peaked in March and has been floundering ever since, although it has still delivered positive returns YTD while the market is down nearly 20%. ABBV typically pulls back after big moves higher. It’s still a defensive company in a recession with an excellent longer-term prognosis amid the aging population. It should pay to simply hold the stock and collect the dividend through rough patches en route to better things in the future. HOLD

Broadcom Inc. (AVGO – yield 3.3%) – The chipmaker and infrastructure software provider once again delivered an earnings beat with 40% earnings growth and a 25% revenue increase versus last year’s quarter. It also raised guidance for the rest of the year. The good news only resulted in a temporary 2% rise in the share price. Broadcom kicks butt every quarter as business remains stellar with a bright future. But the stock still can’t get any love in this crummy tech stock market. Eventually, the market will warm to the stellar earnings, and it should make up for lost time. In the meantime, it pays a solid dividend yield. BUY

Brookfield Infrastructure Partners (BIP – yield 3.3%) – The infrastructure partnership announced a joint venture with Intel to fund a $30 billion semiconductor fabrication plant in Arizona. It’s certainly a timely investment after the passage of the CHIPS Act and should get some generous government subsidies. Brookfield has been phenomenal at finding great investments over the years that are accretive and boost the stock price. BIP spiked higher on the news. It’s been on a torrid uptrend since mid-July and may be moving to a new high. (This security generates a K1 form at tax time). HOLD

Eli Lilly and Company (LLY – yield 1.3%) – LLY bounces around a lot. That’s okay because while bouncing the stock has returned over 12% YTD and averaged a return of over 41% per year for the past three years. This pharmaceutical giant has proven time and time again that it is worth simply holding through the dips as the longer-term trend is consistently higher. Lilly has a strong pipeline and pending approvals of important drugs for Alzheimer’s and weight loss that could give it a big boost before the end of the year. HOLD

Intel Corporation (INTC – yield 4.8%) – The chipmaker just made a massive investment in chip production. It partnered with BIP for a $30 billion investment in a semiconductor fabrication plant where Intel will maintain majority control by providing 51% of the capital. It’s a big and bold move. But the stock is still under pressure as growing recession worry weighs on projected PC sales over the next year. The one consolation is its semiconductor peers are down a lot more over the past week. We’ll see how this news shakes out in the weeks ahead. HOLD

Qualcomm Inc. (QCOM – yield 2.3%) – After a strong summer rally, QCOM has hit the skids again. It got hit as technology sold off again amid fears of higher rates and continuing inflation. Then it took another hit as semiconductor stocks sold off on recession worries. Even though QCOM is performing well individually on an operational basis, it just can’t overcome a market that is souring on the sector. The selling is overdone as earnings continue to be strong and the stock already sells at a cheap valuation. It can move higher fast and make up for lost time when the going gets good again. BUY

Visa Inc. (V – yield 0.8%) – V has been under pressure in this latest market selloff. It always takes a hit when the more cyclical stocks are under pressure. But it has consistently tended to have strong support around the 200 per share level, where it is now, and has been among the first such stocks to rally back when the selling abates. The company continues to thrive from increased global business from the ending of covid restrictions despite slower global growth. HOLD

Safe Income Tier

NextEra Energy (NEE – yield 1.9%) – This alternative energy utility had been soaring until it pulled back a little with the market after the middle of August. But it is on the rise again and appears poised to make a new high. NEE is in the sweet spot of this uncertain market. It provides safety as a utility and offers growth as a clean energy provider amid high conventional energy prices. NEE is timely in the near term and a phenomenal way for conservative investors to play the growth in clean energy. HOLD

Xcel Energy (XEL – yield 2.6%) – XEL has been a stellar performer this year, up 12% YTD in a market that’s down nearly 20%. It has cooled off after making a high in May, but it is still only less than 2 per share below the high. The passage of the CHIPs bill gave it new life and it made new highs last month. Plus, it’s in two timely sectors, utilities and clean energy, and should be well positioned for the longer term as well. HOLD

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