MANAGING STOCK OPPORTUNITIES DURING A MARKET CORRECTION AND RECESSION
The economy has fallen into a recession. The official economic statistics are not at our doorsteps yet – two quarters of falling GDP – but it’s fairly obvious that American business has gone into hibernation for at least a few months. That’s certainly enough to seize up the economic engine and produce official recessionary numbers. Some folks might even throw around the word “depression” in debates and news headlines, but it’s somewhat pointless to go there. Let’s just deal with the obvious.
Americans got what they wanted: quarantine behavior that led to economic devastation among folks in the private sector. The good news? People with government and union jobs are receiving uninterrupted paychecks. So not everybody is suffering. (Feel free to read frustration into my remarks. Nobody is enjoying participation in this train wreck.)
There actually is real good news, though. Stock markets usually decline when the country heads into a recession, but once the recession arrives, stock markets usually begin recovering during the recession. “From your lips to God’s ears,” right? Does this swift fall into recession mean that we’ll get a swift stock market rebound? I generally operate with an optimistic tone, but I think it would be too much to expect a swift stock market rebound. Perhaps a swift 50% rebound, and another year for stock market indexes to march toward their February 2020 all-time highs.
INVESTMENT STRATEGY
I was speaking with a gentleman in recent days who very excitedly told me about his recent wins in the equity index option market. I initially thought that he was experienced, with good market instincts. But then he began asking me questions about options among a particular industry’s stocks, and I was horrified to realize that he had not a clue what he was doing, and that the S&P 500 index option trades that he’d supposedly aced were either extreme luck or a figment of his imagination.
Lesson: This is not the time to step way outside your investment comfort zone or experience level. It’s okay to buy low on Microsoft and Nike if you’ve imagined this opportunity and planned for it. It’s not okay to do something unfamiliar and risky because you heard about somebody else spinning the roulette wheel in Vegas and returning home a millionaire.
What can you reasonably do to improve your portfolio today? First off, you can sell shares of companies that have not been growing their profits in recent years, presuming that they’re not paying you a hefty, safe dividend. Odds are strong that if you move that money into a company with rising profits, you’ll achieve capital gains far more quickly than if you leave that money sitting in shares of a stagnant company. That holds true, whether we’re near a market top or at the bottom of a big correction.
Next, you can swap shares of a company that’s suffering as a specific result of this globe-traveling virus, or as a victim of a steep drop in oil prices, and reinvest that money into a company that’s not greatly harmed by the current quarantine behavior that’s sweeping the globe. Granted, most good companies’ stocks will rebound. But if you want to achieve capital gains sooner rather than later, the odds are with the relatively non-oil affected or virus infected industries.
Sounds reasonable! Which industries might recover more quickly than others? Glad you asked. Here we go:
Buy shares in the products you buy at Kroger (KR) and WalMart (WMT). People are still buying food and household products: meat, cereal, candy, cotton balls, shampoo, OTC medicines, birthday cards, beer and cigarettes. Look for famous names within the Consumer Defensive sector. I like Tyson Foods (TSN) and Sanderson Farms (SAFM). These are two very financially sound, growing companies that provide the world with poultry and other meats. You’re having a hard time finding chicken in the supermarket, right? Let me assure you that there’s no supply problem. The chicken is getting shipped to supermarkets, and people are hoarding it. Imagine the number of people who used to routinely buy fast food, or eat in restaurants. You already know that chicken was the meat that they most likely chose from menus. Now those same people are buying chicken and cooking it at home. Suppliers are shifting their shipments from restaurants to supermarkets, and consumers are buying chicken as swiftly as it arrives in the freezer section of grocery stores. Both of these companies are slated for strong profit growth in both 2020 and 2021. As a bonus, their share prices have already begun recovering, with lots of room for additional capital gains.
People are staying home and spending the entire day working, shopping and being entertained via electronics: computers, cell phones, iPads and TV. While there might be small drops in quarterly revenue at companies like Apple Inc. (AAPL), for the most part, you can do some worry-free shopping among stocks associated with hardware & components, software, streaming services, internet services, advertising services, online retail and gaming. Our portfolios, below, offer up Adobe Systems (ADBE), Amazon.com (AMZN), Apple, Broadcom (AVGO), Netflix (NFLX), Nvidia (NVDA) and Universal Electronics (UEIC).
Which industries should I avoid? Social media is rife with discussion about businesspeople (like myself) working from home and students (like my daughters) taking online classes. I believe it’s inevitable that people realize that working and learning from home, via computer, is a reasonable and cheap alternative to commuting to work or going into debt for the exorbitant costs of on-campus college attendance. Even the employees at the New York Stock Exchange are working from home! Once the threat of the virus is past, every company in America is going to reassess the necessity of their current office space situation. How many will say, “Yes, we need more office space!” Mmm, probably none. How many will say, “This working-from-home thing didn’t cut into productivity, as we had originally feared. We could save 30% of our budget by moving to smaller office space.” Many companies will come to similar conclusions.
So what can a stock investor do with this information? You can assess your investment in Real Estate Investment Trusts (REITs). Some REITs should be fine, like those that own medical facilities. It’s hard to take somebody’s blood pressure when the nurse is working from home, right? But some REITs invest in office buildings full of writers and financial executives and human resources personnel. These jobs can often be done online from home. Examine your REITs. Get ahead of coming workforce changes and reallocate your portfolio today. (I do not personally follow utilities, REITs or precious metals. I will not be a good resource for intricate examination of those investments.)
I am restricted from referencing Wall Street research reports in this stock letter, unless the corresponding analysts’ comments are cited in public news articles. Keeping that in mind, I read an analysis of retailers that are at financial risk due to their high debt levels, compounded by virus-related commerce disruptions. I can’t legally list those companies for you, although the list definitely includes Macy’s (M), which I’ve repeatedly cited during the last year. What I can say is that the three retailers within my advisory letter – Abercrombie & Fitch (ANF), Designer Brands (DBI) and Guess?, Inc. (GES) – were definitely NOT mentioned as having high debt levels. (I already knew that, of course, but I want to reiterate that to my investing audience.)
Portfolio performance — The average annualized total return on the 108 stocks that have been bought and then sold within these portfolios from October 2015 through February 2020 has been 14.96%, with an average holding period of 10.5 months. (These returns do not include compounded growth, but they do include dividends.)
Send questions to Crista@CabotWealth.com.
Portfolio Notes
Be sure to review the Bulletin from March 19 in which I mentioned news, rating changes and/or price action on Guess?, Inc. (GES).
Today’s Portfolio changes
Alexion Pharmaceuticals (ALXN) moves from Hold to Buy.
Guess? Inc. (GES) moves from Hold to Buy.
Mercury General (MCY) moves from Hold to Strong Buy.
Tyson Foods (TSN) moves from Hold to Strong Buy.
Recent Portfolio changes
Adobe Systems (ADBE) moved from Buy to Strong Buy.
Equitable Holdings (EQH) moved from Buy to Hold.
MKS Instruments (MKSI) moved from Strong Buy to Hold.
BEST STOCKS TO BUY TODAY
* A good choice today for investors looking for growth (G), growth & income (DIV) or trading (T).
Growth Portfolio
Adobe Systems (ADBE) is a software company that’s changing the world as an innovative leader in digital media and digital marketing. Earnings estimates are relatively unchanged from last week. Analysts expect EPS to increase by 24.4% and 14.5% in 2020 and 2021, respectively. The 2020 P/E is 32.4. ADBE is a large-cap growth stock. The share price has shown far more stability than most stocks this month, and will therefore likely recover sooner than the broader market. Buy ADBE now. Strong Buy.
LGI Homes (LGIH) — (last detailed update March 11) There’s been absolutely no deterioration in EPS projections in recent months; instead, the numbers have been rising. The stock might have bottomed, but it needs to settle down some more before buying. Hold.
Marathon Petroleum (MPC – yield 12.9%) is a leading integrated downstream energy company and the nation’s largest energy refiner, with 16 refineries, a majority interest in midstream company MPLX LP, 10,000 miles of oil pipelines, and product sales in 11,700 retail stores. Last week, Marathon named a new CEO, Mike Hennigan, who has been the CEO and President of MPLX LP. The Board of Directors additionally completed their strategic review of MPLX, deciding to keep the asset rather than sell it or spin it off to shareholders. MPLX generated $1.75 billion EBITDA in 2019.
While Marathon was exploring strategic alternatives for both the Speedway and MPLX businesses, the economic and OPEC landscapes vastly changed, as did stock market and oil prices. Therefore, it’s unlikely that any new M&A activity will be announced in the coming months. Marathon continues its plan to spin off the Speedway retail business in the fourth quarter of 2020.
MPC is a greatly undervalued large-cap stock. Marathon’s earnings growth projections have come down dramatically from COVID-19’s affect on global commerce, resulting in a lower demand for oil products. Profits are now expected to rise just 5.7% in 2020. The P/E is 3.5. How safe is the dividend? The company just increased the dividend payout with the March payment. Anything’s possible, but I’m guessing they’d be greatly embarrassed to switch gears and cut the dividend payout today. The stock fell with the market correction, and might now have begun to stabilize. Patient investors can buy low and await the market rebound. Buy.
MKS Instruments (MKSI – yield 1.1%) — (last update March 4) EPS projections came down a little in late February, and have since remained stable, reflecting aggressive growth in 2020 and 2021. The stock seems to be settling at the level where it traded last May through August. Let’s give it a little time to rest there. Hold.
Quanta Services (PWR – yield 0.8%) — (last update March 11) Earnings estimates have come down a fraction this month, currently reflecting 13.8% and 7.9% EPS growth in 2020 and 2021. The company is thriving, while the share price drop has not yet stabilized. Give it a little more time. Hold.
Tyson Foods (TSN – yield 2.7%) is the largest U.S. food company, with operations in 20 countries, and a recognized leader in protein with leading brands including Tyson, Jimmy Dean, Hillshire Farm, Ball Park, Wright, Aidells, ibp and State Fair. Management is focused on the growing global need for protein, and fulfilling that need in a sustainable and environmentally conscious manner. Tyson Foods was featured in the December 10 and January issues of Cabot Undervalued Stocks Advisor.
Back in November, China agreed to buy more poultry from the U.S., lifting their nearly five-year ban on poultry imports, and they also removed existing tariffs. Then in January 2020, China promised to buy significantly increased amounts of U.S. poultry in 2020 and 2021 as part of a Phase 1 U.S.-Sino trade deal, which helps alleviate China’s need for protein sources in the wake of the devastation that African Swine Fever imparted on the country’s hog population. Last week, China additionally agreed not to ban all U.S. poultry imports if avian flu is discovered among any U.S. poultry populations. Instead, China will temporarily ban poultry products from any U.S. state where an avian flu outbreak occurs.
In March 19th comments about U.S. grocery stores running low on meat in recent weeks, Tyson CEO Noel White said that this temporary supply and demand imbalance should be resolved within a week, indicating that there is no supply problem, but rather that consumers’ hoarding activity has led to increased demand, compounded by a demand shift from restaurants to supermarkets.
Earnings growth projections for 2020 have come down about 9% since late January as analysts assumed that China would be purchasing fewer protein products from the U.S. than they’d recently indicated in association with the Phase 1 trade agreement. Analysts are now forecasting EPS to increase 13.6% and 15.8% in 2020 and 2021 (September year end). The 2020 P/E is 9.9.
Last week, JPMorgan raised their rating on TSN from Neutral to Overweight. The stock formed a double-bottom pattern on the price chart in recent days, and has decidedly turned upward. I’m moving TSN from Hold to a Strong Buy recommendation. The stock will still bounce around, but I believe the worst is over. Strong Buy.
Universal Electronics (UEIC) — (last detailed update March 4) On March 12, management announced the authorization of the repurchase of up to 300,000 shares of stock through May 7, which is presumably the date of the first quarter earnings release. Investors can interpret this move as a belief on management’s part that the stock is very cheap, and that repurchasing their own stock is a good use of their available cash. Earnings estimates increased a bit in March, reflecting attractive, double-digit growth expectations in 2020 and 2021. It’s not time to buy this stock yet. The price needs to continue stabilizing. Hold.
Voya Financial (VOYA – yield 1.8%) — (last detailed update March 4) Regardless of the virus epidemic, earnings estimates have been steadily declining for many months, yet still reflect very aggressive growth rates of about 34% per year. The P/E is only 7.1! Clearly, investors have trashed any company that has any connection to life insurance because they’re assuming that this market downturn is similar to the one in 2008. However, this market downturn bears no similarity in causation. Companies that sell life insurance – wholesale and retail – are in far stronger financial positions than they were in 2008. The stock has not yet stabilized from its fall. Give it a little more time. Hold.
Growth & Income Portfolio
Broadcom (AVGO – yield 6.1%) is a global technology leader that designs, develops and supplies semiconductor and infrastructure software solutions that serve the world’s most successful companies. Broadcom was featured in the December 17 and January issues of Cabot Undervalued Stocks Advisor. In mid-March, CFO Tom Krause commented, “We are well positioned to continue to support our dividends to stockholders despite the challenging market backdrop.” The company’s secondary financial goal is debt repayment, with share buybacks now on the back burner. Earnings estimates have come down since mid-month, reflecting weaker China smartphone sales during the virus epidemic. Analysts now expect EPS to grow 2.1% and 10.8% in 2020 and 2021 (November year end). The 2020 P/E is 9.9. The price chart appears to be showing a bottoming pattern. The stock will likely bounce at the recent bottom a bit more before gathering the strength for a rebound. Buy.
Dow Inc. (DOW – yield 9.6%) is a commodity chemicals company with manufacturing facilities in 31 countries. Dow derives roughly 50% of profits from its polyethylene business. The company is assisting in the COVID-19 crisis by producing hand sanitizer and contributing $3 million to relief efforts. Management is focused on cost-cutting, debt repayment and returning cash to shareholders. The company will host their annual meeting on April 9. Such meetings typically cause analysts to update earnings estimates and research reports to their institutional clients.
The consensus earnings outlook came down in March due to business disruptions associated with the coronavirus. Analysts now expect full-year EPS of $2.89 and $3.50 in 2020 and 2021, reflecting (17.2%) and 21.1% annual growth. The P/E is 10.1. This week, investment firm Jefferies raised their recommendation on DOW from Hold to Buy. The worst seems to be over for the share price. Investors should continue to expect volatility. Buy.
Goldman Sachs Group (GS – yield 3.3%) — (last detailed update March 4) Last week, Reuters reported that Goldman Sachs injected over $1 billion in their proprietary money market funds in order to allay liquidity concerns that were sparked by investor withdrawals. That’s because a surge in withdrawals in any type of mutual fund – short-term bonds, stocks, gold, money market, etc. – can potentially depress the price of the underlying assets. In additional, all globally systemic important banks (GSIBs) and U.S. Bank (USB) have suspended their buyback programs through June 30, which allows the banks more flexibility in providing liquidity to clients. The temporary halt of share repurchases will necessarily bring 2020 earnings estimates down by a small amount. Earnings estimates have been declining among global banks since early February, due to the virus-related commerce disruption, and they will undoubtedly decline further this week as analysts rework their estimates in light of the three-month suspension of share repurchases. Analysts now expect Goldman’s EPS to grow 8.9% and 15.4% in 2020 and 2021. The 2020 P/E is 6.5. The share price needs to stabilize further. Give it a little more time. Hold.
GUESS?, Inc. (GES) (last detailed update March 19) The company has suspended the dividend in order to preserve liquidity until the resumption of healthy global commerce becomes more reliable. GES is a greatly undervalued, small-cap stock. Prior to the COVID-19 crisis, Guess? had been delivering multi-year earnings growth than all of its retail apparel peers. The worst seems to be over for the share price. I’m therefore moving GES from Hold to a Buy recommendation. Traders will probably benefit from wide price swings. Buy.
Total S.A. (TOT – yield 9.3%) is a French multinational integrated energy company that produces and markets fuels, natural gas and low-carbon electricity, operating in over 130 countries. Fourth quarter results featured strong performance in all business segments. Falling oil prices caused analysts to lower earnings projections in March, with Total’s EPS now expected to fall 29.5% in 2020 and grow 60.2% in 2021. The 2020 P/E is 10.5. The company announced a suspension of their share buybacks during the current global economic disruption. The share price turned upward in recent days. My intention is to return TOT to a Buy recommendation after the price chart stabilizes. Dividend investors should consider locking in the abnormally large dividend yield. Hold.
Buy Low Opportunities Portfolio
Abercrombie & Fitch (ANF – yield 8.6%) — (last detailed update March 11) Earnings projections fell dramatically this year due to virus-related disruptions in global commerce. Retailers have been impacted more than other industries. The stock has just begun stabilizing from its recent drop. Hold.
Alexion Pharmaceuticals (ALXN) — (last detailed update March 11) There’s been no material change in earnings estimates for Alexion since the company reported fourth quarter 2019 results in January. I’m moving ALXN from Hold to a Buy recommendation. The stock appears to have begun its recovery. Buy ALXN now. Buy.
Apple Inc. (AAPL – yield 1.3%) — (last detailed update March 11) Apple reopened their retail stores in China, and in-country iPhone manufacturing is back to normal, according to Foxconn. Conversely, the company closed all retail stores outside of China, presumably so that employees would not be working in potentially infectious environments as COVID-19 spreads around the globe. Earnings estimates for Apple peaked in early February, and have since come down, due to the impact of the virus on global economies. The company definitely sold fewer iPhones in China during their March quarter than originally projected. Analysts are now forecasting $13.14 and $15.44 EPS in 2020 and 2021 (September year end), reflecting 10.5% and 17.5% growth rates. The 2020 P/E is 18.5. The company typically announces a dividend increase and a new share repurchase authorization annually, in late April. I recommend that investors build a position in AAPL. Strong Buy.
Baker Hughes Company (BKR – yield 6.6%) — (last detailed update March 4) Earnings estimates have been declining, largely due to the severe disruption in the global economy and oil prices. Wall Street now expects EPS to rise 8.2% and 30.4% in 2020 and 2021. The 2020 P/E is 11.8. The stock is possibly exhibiting a bottoming pattern. Give it a little more time. Hold.
Designer Brands Inc. (DBI – yield 6.4%) (last detailed update March 18) As I reported last week, Chief Executive Officer Roger Rawlins stated, “The impact of COVID-19 on our business and industry is unprecedented … At the direction of government officials … we have made the difficult decision to temporarily close our North American retail locations… However, we will continue to serve our customers through our leading e-commerce infrastructure, which we have invested in heavily over the last few years. Our warehouses will remain open to fulfill our online orders, operating under our emergency preparedness plan, and all retail employees will be compensated in the near-term.” Management reduced the dividend from 25 cents to 10 cents per quarter. The stock is suffering from the market correction and the curtailing of commerce across the globe. The share price has turned upward. Dividend investors can buy now. Growth investors and traders should expect volatility. Buy.
General Motors (GM – yield 7.3%) — (last update March 11) The company announced yesterday that it intends to draw down approximately $16.0 billion from its revolving credit facilities, bringing their cash position up to about $32 billion. There has been no announcement regarding dividends or share repurchases, but investors should be aware that any company could suspend such shareholder benefits in order to focus on surviving financially during this time of economic trouble. General Motors is currently producing ventilators in order to alleviate hospital equipment shortages that were not properly addressed after the H1N1 virus traveled the globe. Earnings projections have been declining since it first became apparent in January that the COVID-19 virus would affect GM’s business operations in China, and now around the globe. Analysts expect EPS to fall 2.9% in 2020, then to rise 15.6% in 2021. The 2020 P/E is 4.4. The stock has potentially begun a bottoming pattern. Traders can play around with it, but everyone else should wait for it to stabilize more. Hold.
Mercury General Group (MCY – yield 6.8%) — (last update March 4) Earnings projections have remained strong and unchanged since the company reported fourth quarter 2019 results in February. Additionally, I’m guessing that the company will be paying fewer auto collision claims while so much of the U.S. population is staying home, and therefore driving less. The stock is exhibiting a bottoming pattern, and could begin to rebound at any time now. I’m moving MCY from Hold to a Strong Buy recommendation. Buy MCY now. Strong Buy.
Special Situation AND MOVIE STAR PORTFOLIO
Amazon.com (AMZN) — (last detailed update March 11) Earnings estimates peaked in early March, and have since come down a fraction, continuing to reflect very strong annual growth. AMZN rose to a new high in February, dropped down to Fall 2019 support levels in March, and the share price is now actively rebounding. If you don’t already own AMZN, what are you waiting for? Strong Buy.
Equitable Holdings (EQH – yield 4.7%) — (last detailed update March 4) Earnings estimates for Equitable have come down a small amount from their early-March peak, and the valuation is astonishingly low. I have frankly never seen anything like the carnage I’m witnessing among companies that sell life insurance. I am assuming that people are selling because they believe the current stock market drop has a similar cause to the stock market correction that was triggered in 2008. However, that is so obviously not the case that I am embarrassed for the folks who can’t reason this through. The fact is, companies that sell life insurance are in a vastly more solid financial position than they were during the 2008 Financial Crisis. The current stock market drop is all about COVID-19 and the economy. There is no logical reason for somebody to think that life insurance companies will suffer financially, unless they believe that massive numbers of people will die vs. a typical flu season. We already know that COVID-19 is killing far fewer people than a typical cycle of flu.
Equitable is a financially stable company. Additionally, the company has no debt maturities for at least two years, so they can hold onto cash for liquidity while riding out this storm. EQH might have begun a bottoming pattern. It’s okay to go bargain hunting here. I’ll move the stock to a Buy recommendation after the price chart becomes more stable. Hold.
Netflix (NFLX) — (last detailed update March 4) People are stuck at home, watching Netflix. It follows that there will likely be a surge in new, global subscribers reflected in the next quarterly earnings release. EPS estimates came down a couple of pennies from their early-March peaks, and continue to reflect very aggressive growth. NFLX remains my “Best Coronavirus Stock”. Buy NFLX now. Strong Buy.
NVIDIA (NVDA – yield 0.3%) — (last detailed update March 4) Earnings estimates came down a tiny fraction this week from their peaks in March. Wall Street expects EPS to grow 33.9% and 19.0% in fiscal 2021 and 2022 (January year end). The 2021 P/E is 31.2. The price chart is much stronger than the broader market indexes. Continue to accumulate shares. Strong Buy.
VanEck Vectors Oil Refiners ETF (CRAK) — (last detailed update March 4) It’s not time to buy this ETF yet. I’d like the price to stabilize some more. Hold.