Portfolio Notes
For the third time in less than a year, a portfolio stock has received a lucrative buyout offer. Yesterday, I sent out a Special Bulletin when it was announced that the board of directors of chemical company Chemtura (CHMT) had unanimously agreed to accept a buyout offer from Lanxess AG in a deal valued at $2.5 billion. Chemtura shareholders are offered $33.50 in cash per share of common stock upon the close of the deal in mid-2017.
I always recommend that investors who own takeover stocks sell the stock, rather than wait many months for the deal to be completed. That’s because CHMT’s share price will barely move between now and the close of the deal, so there’s very little money to be made by continuing to hold CHMT versus reinvesting your capital into another growth stock. CHMT was sold from the Growth Portfolio yesterday.
Financial stocks are being trashed by traders right now on the heels of bad news coming from Wells Fargo (a company-specific scandal), trouble at Deutsche Bank (weakened corporate finances combined with a demand for $14 billion from the U.S. Justice Dept.), a Fed decision not to raise interest rates, and general market skittishness over the U.S. Presidential election. Stay the course. Traders will see buying opportunities among financial stocks in the coming days.
Here are some news items and portfolio highlights in today’s update:
• I’m changing the recommendation on Carnival (CCL) to Strong Buy.
• Chemtura (CHMT) received a lucrative buyout offer and was sold from the Growth Portfolio.
• Adobe (ADBE), FedEx (FDX) and Carnival (CCL) all reported quarterly earnings beats.
• Royal Caribbean Cruises (RCL) increased its dividend.
• I think we’re going to see good price action in the coming days on Amazon (AMZN), Carnival (CCL) and Vulcan Materials (VMC).
In last week’s update, I changed the rating on D.R. Horton (DHI) to Buy.
Upcoming dates of interest:
September 26: FedEx(FDX) Annual Shareholder Meeting*
September 28: Leerink Partners Roundtable Series* (features Vertex (VRTX))
September 30: FDA decision on Vertex (VRTX) drug
December 5: Johnson Controls (JCI) Corporate Analyst Meeting*
*The analysts who attend industry conferences write updates on the affected stocks, often causing increased market activity with the stocks.
Updates on Growth Portfolio Stocks
Adobe Systems (ADBE) is a software company that’s amid a multi-year phase of successfully shifting customers to a subscription revenue model. Adobe was featured in two Special Bulletins last week, after the company exceeded third-quarter earnings expectations (November year-end), pushing the share price up 7% to new all-time highs. Customers continue to embrace Adobe’s Creative Cloud package of software tools, driving a 41% year-over-year increase in subscription revenue. Annualized recurring revenue rose from $3.41 billion in the second quarter to $3.7 billion in the third quarter.
Third-quarter adjusted earnings per share (EPS) were 75 cents, when analysts had expected 72 cents. Revenue came in a fraction higher than expected. The CFO forecasted “another record quarter” in the current fourth quarter, including EPS in the range of 83 to 89 cents, when the Wall Street estimate had been 78 cents.
ADBE is an undervalued aggressive growth stock with a strong balance sheet. EPS are now expected to grow 42.8% and 30.0% in 2016 and 2017 (November year-end). The corresponding P/Es are 36.2 and 27.8. It’s fine to buy ADBE at the current price, but odds are decent that growth investors will be able to buy on a dip below 105. Strong Buy.
Amazon.com (AMZN) dominates the online retail space by offering a wide variety of merchandise at low prices to customers around the globe. Among its myriad successes, Amazon is stealing significant apparel market share from U.S. department stores. Analysts’ consensus estimates reflect 365% and 80.4% EPS growth in 2016 and 2017. The corresponding P/Es are 138.7 and 76.9. AMZN is an undervalued, large-cap aggressive growth stock in the consumer discretionary sector. I sent a Special Bulletin last week, to alert investors that AMZN rose to new all-time highs. I expect additional near-term gains, barring an expected downturn in the broader market. Growth investors should buy AMZN now. Strong Buy.
D.R. Horton (DHI) is a homebuilder. Third-quarter results reflected strong increases in sales, orders, closings and backlog. D.R. Horton will complete its 2016 fiscal year this month, with expectations of 19.0% full-year EPS growth. Looking toward fiscal 2017, EPS are expected to grow 12.6%, with a corresponding P/E of 11.3. The stock is undervalued, with a dividend yield of 1.0%.
The recent price correction in DHI has created a buying opportunity. There’s upside resistance at 34.50 with room for traders to make over 10% on the rebound. Buy.
Dollar Tree (DLTR) is the nation’s leading operator of discount variety stores. Consensus EPS estimates reflect aggressive growth of 31.3% and 20.1% in 2017 and 2018 (January-end), with corresponding P/Es of 21.2 and 17.6. The stock’s long-term debt-to-capitalization ratio is high at 62%. Patient growth stock investors and bargain hunters should buy DLTR now, at price support in the low 80s. The rebound will likely commence within a month. Buy.
E*Trade (ETFC) offers financial brokerage and banking products and services. Last week, E*Trade completed its purchase of OptionsHouse, rated “Best for Options Traders” in a 2016 Barron’s assessment of online brokers. The company announced several changes in leadership, drawing upon the strengths of current executives at both E*Trade and OptionsHouse. The most significant change is the departure of CEO Paul Idzik, who is replaced by Karl Roessner, formerly E*Trade’s General Counsel, with a goal of improving core brokerage growth. Analysts expect EPS to grow 45.3% and 2.9% in 2016 and 2017 (December year-end).
ETFC rose nicely in September so far. The stock has upside resistance at 28.50 and 31, although it’s possible that ETFC will blow right past 28.50. Shareholders should sell ETFC as it approaches medium-term resistance at 31, and move into an undervalued stock with better future EPS growth. Hold.
Royal Caribbean Cruises (RCL) is a global cruise vacation company. I mentioned Royal Caribbean’s dividend increase in two Special Bulletins last week. The company hiked the quarterly dividend by 28%, from 37.5 cents to 48 cents per share. The current yield is 2.7%. EPS are currently expected to grow 25.9% and 15.1% in 2016 and 2017, with corresponding P/Es of 11.8 and 10.3.
Last week I wrote: “Please look at a price chart and notice that each time RCL has dipped down to the mid-60s this year, the fall and rebound process took about two weeks, with the stock quickly rising anywhere up to 72 to 77. Traders, dividend investors and growth investors should buy now, because they’re likely to promptly gain 9% to 15% profit.” As if on cue, RCL closed at 65.48 on Monday, then rose all week, closing at 71.99 on Friday, gaining 9.9% in four days. Traders should be prepared to make a sell decision, and everyone else should hold the stock. RCL will most likely rise into the upper 70s shortly, then rest there.
Cruise vacation stocks have been out of favor all year. Patient growth stock investors, bargain hunters and those who love growing dividends should buy now. If this undervalued growth stock bounces near 65 again, you know what to do. Buy.
Vulcan Materials (VMC) is the nation’s largest producer of construction aggregates. EPS are expected to continue growing aggressively, at rates of 56.2% and 36.8% in 2016 and 2017, with corresponding P/Es of 32.8 and 23.9 (December year-end). VMC has a nominal 0.7% dividend yield. VMC peaked this year in late July then pulled back. The stock will most likely trade between 108 and 120 in the coming weeks. Growth stock investors should buy now. Strong Buy.
WellCare Health Plans (WCG) is an aggressive growth stock in the managed healthcare sector. Wall Street analysts list WellCare as Cigna’s (CI) most likely takeover target if the Anthem-Cigna merger fails. Cigna’s management recently affirmed that if the merger with Anthem fails, Cigna will seek to deploy cash—including the $1.85 billion merger break-up fee—into strategic M&A opportunities.
The U.S. Department of Justice (DOJ) sued to block the Anthem-Cigna merger in July due to antitrust issues. The new judge on the case plans to begin the trial on November 21, wrap up by December 30, and will issue a decision in January. However, Anthem reiterated on August 12 the likelihood that Cigna will not agree to an extension past December 31. (The two companies have a hostile relationship.) On September 21, the DOJ filed court documents that intend to force the insurers to reveal alleged breaches of the merger agreement.
Investors should consider owning WCG (or buying call options on the stock at an appropriate time) because if a takeover offer arrives, it will likely happen this coming winter, and will likely push WCG’s share price significantly higher.
WellCare aims to double its revenues between 2017 and 2021 through both organic growth and acquisitions. EPS are expected to grow 46.5% and 17.3% in 2016 and 2017 (December year-end). The corresponding P/Es are 22.9 and 19.5. The stock is fully valued based on 2017 earnings estimates. WCG rose to a new all-time high in August. The stock is likely to trade between 112 and 117 briefly, then reach new highs again. Buy.
Updates on Growth & Income Portfolio Stocks
Applied Materials (AMAT) is a worldwide leader in the manufacture of capital equipment within the semiconductor industry. I sent a Special Bulletin last week after the company hosted its 2016 Analyst Day. Applied Materials increased the forecast for its 2019 fiscal year (October year-end). In 2015, the company had forecasted $2.00 EPS in 2019. The updated 2019 EPS expectation is $2.45–$3.17.
EPS are expected to grow 47.1% and 27.4% in 2016 and 2017. The corresponding P/Es are 16.9 and 13.3. AMAT is a volatile, large-cap aggressive growth stock; but it’s also a seriously undervalued stock with an attractive dividend yield of 1.3% and a low debt ratio.
AMAT broke out of a trading range last week, then pulled back. There is no discernible upside price resistance. All growth stock investors should own AMAT. Strong Buy.
Big Lots (BIG) is an American discount retailer, with over 1,400 stores in 47 states. BIG is expected to grow EPS by 18.9% and 11.0% in 2017 and 2018 (January year-end). The corresponding P/Es are 13.2 and 11.9. BIG is a slightly undervalued mid-cap growth & income stock with a strong balance sheet. The dividend yield is 1.8%. BIG rose to new highs in August, and has since pulled back to price support around 45 to 47. The stock will need to rest there for a few weeks before climbing back toward 56. Traders and growth & income investors should buy now. Buy.
Cardinal Health (CAH) is one of the largest U.S. distributors of healthcare products and services. EPS are expected to grow 6.9% and 11.6% in 2017 and 2018, with corresponding P/Es of 13.9 and 12.4. CAH is an undervalued growth & income stock with a 2.3% dividend yield. CAH will most likely trade between 75 and 82 throughout October. Buy.
Carnival (CCL) is a cruise vacation company, and the largest leisure travel company in the world. I sent out a Special Bulletin yesterday after Carnival reported record third-quarter results (November year-end). The company achieved $1.93 earnings per share (EPS) when the market was expecting $1.88. Revenue came in on-target at $5.1 billion, which was 4.4% higher than a year ago (November year-end). Carnival increased its full-year earnings expectation by about eight cents per share, to a range of $3.33-$3.37. The company also repurchased $700 million of stock during the quarter, with a fiscal year-to-date total repurchase of $2.5 billion.
I’m increasing my recommendation on CCL from Buy to Strong Buy due to the persistent disparity between the company’s record earnings growth and the stock’s low valuation. EPS are expected to grow 23.7% and 13.8% in 2016 and 2017 (November year-end). The corresponding P/Es are 14.1 and 12.4. The current dividend yield is 2.9%. CCL is trading between 44.50 and 49. There’s medium-term upside resistance at 54. Strong Buy.
Federated Investors (FII) is a global investment management company. Consensus estimates show Federated’s EPS growing 22.2% and 6.6% in 2016 and 2017 (December year-end). The dividend yield is 3.2%. FII has medium-term upside resistance at 33.50, where it traded in early 2015. Hold.
GameStop (GME) is a video game and consumer electronics retailer. GameStop’s earnings growth is expected to be slow for a while, however, gross margins and full-year earnings are reaching record levels. The stock remains quite undervalued, with a huge 5.2% dividend yield and a very low 2015 long-term debt-to-capitalization ratio of 14.4%.
GME shares are cheap right now, with minimal downside. The big dividend provides extremely strong price support. Based on its repetitive trading patterns, I expect GME to be back at 32 in October. Traders and growth & income investors have an especially attractive opportunity in GME. Buy.
General Motors (GM) is an American auto manufacturer. Strong 2016 EPS growth is expected to come to a halt in 2017 (December year-end).
I issued a Special Bulletin last week when GM rose past 32. The stock could easily rise to 35, where it will meet significant upside resistance. All traders and longer-term investors should be prepared to sell near 35, because the stock’s going to get stuck there. Caveat: The 4.7% dividend yield is safe, so keep GM if the dividend is your primary investment goal. Hold.
Goldman Sachs Group (GS) is a global investment banker, serving consumer, institutional and government clients. Wall Street expects EPS to grow 17.7% and 20.1% in 2016 and 2017 (December year-end). The corresponding P/Es are 11.4 and 9.5, indicating that the stock is significantly undervalued. GS has a current dividend yield of 1.6%. Goldman plans to increase both its dividend and share repurchase authorization, but has not yet announced the dollar amounts. We could see that announcement around October 18, when Goldman is due to declare its next dividend. GS is ratcheting toward upside resistance at 175. Strong Buy.
H&R Block (HRB) is a leader in tax preparation services. Management remains focused on improving sales during the next tax season, rolling out a new marketing campaign, and possibly introducing a new refund anticipation loan product that will involve a bank partnership.
HRB is an undervalued growth & income stock with a 3.8% dividend yield. EPS are expected to grow 9.4% and 7.5% in fiscal 2017 and 2018 (April year-end). The share price is low, the dividend is big, and the company continues to be the subject of takeover speculation. While HRB no longer meets all of my investment criteria, I still see significant upside potential this year. Last week, I mentioned in a Special Bulletin that HRB is actively rising toward price resistance at 24.50. Traders should be prepared to exit around 24.25. Everyone else should buy and hold HRB for additional capital gains. The best-case scenario for the share price in 2016 is probably 28. Buy.
Kraft Heinz (KHC) is a global food and beverage producer of dozens of famous brand names, including Jell-O, Velveeta, Oscar Mayer, Maxwell House and many more. The company is still in the early stages of revenue management initiatives in the wake of the July 2015 merger between Kraft Foods Group (KRFT) and privately owned H.J. Heinz, which was backed by a $10 billion investment by 3G Capital and Berkshire Hathaway. KHC is the largest holding in the Berkshire Hathaway stock portfolio. The company was featured in the September issue of Cabot Undervalued Stocks Advisor.
Kraft Heinz’ post-merger early-stage cost savings are coming in better than expected, already reaching 80% of its $1.5 billion cost savings goal. Wall Street analysts are now revising that expectation to $2.0 billion. There is minimal overlap between the Kraft and Heinz areas of geographic product distribution, therefore, the company will benefit from international expansion opportunities, which have not yet been optimized.
Wall Street is anticipating additional acquisitions, divestitures and/or share repurchases in 2017. Due to the company’s low debt ratio, Kraft Heinz has a lot of balance sheet flexibility for M&A transactions, and potential acquisitions costing up to $100 billion. Bloomberg & Forbes have mentioned Campbell, General Mills, Kellogg and Mondelez as potential takeover targets.
Full year EPS are expected to grow 47.0% and 21.7% in 2016 and 2017 (December year-end), with corresponding P/Es of 27.5 and 22.6. The dividend yield is 2.7%.
KHC traded sideways for eight weeks in May and June then rose to the current trading range. The stock appears capable of breaking past upside resistance at 90.50 in the coming weeks. KHC could appeal to a wide variety of stock investors, including those who focus on growth, aggressive growth, growth & income, value and momentum. Buy KHC now. Buy.
Whirlpool (WHR) is the world’s largest appliance manufacturer. Read this lengthy September 13 Forbes interview with Whirlpool’s CIO Michael Heim, who has revitalized the company’s approach to technology. Wall Street expects EPS to grow aggressively at 18.7% and 17.2% in 2016 and 2017 (December year-end), with corresponding P/Es of 10.9 and 9.3. WHR is an extremely undervalued growth stock with a 2.5% dividend yield. WHR has huge and very tradable price swings. The stock is now experiencing its third price correction from 2016 highs. We could see a rebound to 180 by late October. Traders and investors should buy WHR now. Strong Buy.
Updates on Buy Low Opportunities Portfolio Stocks
Boise Cascade Company (BCC) is a leading U.S. wholesaler of wood products and building materials. Wall Street expects EPS to grow 10.5% and 36.1% in 2016 and 2017 (December year-end). The 2016 and 2017 P/E’s are 17.9 and 13.2. BCC is extremely undervalued based on strong projected 2017 earnings growth.
I issued a Special Bulletin last week when Goldman Sachs initiated coverage on BCC with a Buy rating and a price target of 34. While there’s nothing newsworthy about comments from other investment firms, in this case, the research report generated a 9% move in the share price on heavy volume.
BCC has upside price resistance at 28, but it could climb all the way to 32 before having a pullback. Growth investors can continue to buy at the current price. Buy.
BorgWarner (BWA) is a maker of engineered automotive systems and components for power train applications. Barron’srecently published an excellent descriptive article about BWA’s rosy long-term outlook in both the gas-powered and electric car markets. Expect long-term revenue growth rates in the mid-to-high single digits from its expanding and innovative product portfolio, and for margins to continue expanding from currently-healthy levels. BorgWarner derives 54% of revenue from Europe, where auto demand is recovering from historically low levels.
EPS are expected to grow 7.6% and 9.5% in 2016 and 2017. The stock is undervalued with a 2017 P/E of 9.8 and a 1.5% dividend yield. BWA rose past price resistance at 35 in early September. The chart remains bullish, with upside resistance at 38 or 40. Buy BWA now. Buy.
FedEx (FDX) is an international package delivery company. I issued a Special Bulletin last week after FedEx reported an earnings beat, which caused the stock to rise 8% so far. FedEx reported first-quarter adjusted earnings per share (EPS) of $2.90, when analysts were expecting $2.81 (May year-end). Total revenue came in a little higher than expected, reflecting strength in the company’s express, ground and freight business units. The market seems pleased with the early stages of the FedEx-TNT merger.
FedEx’s EPS are expected to grow 12.5% and 12.0% in 2017 and 2018, with corresponding P/Es of 14.5 and 12.9. The current yield is 0.92%.
The stock could easily rise to the 180 to 185 range, at which point I definitely expect it to get stuck. I will likely issue a Sell recommendation—barring any increases in the earnings outlook—when the stock is approaching a fair valuation and significant price resistance. Hold.
Harman International Industries (HAR) is the premiere connected technologies company for automotive, consumer and enterprise markets, best known for its JBL and Harman Kardon audio systems. Analysts expect the next two years’ EPS to grow 9.8% and 8.5% (June year-end). HAR has a 1.7% dividend yield. The stock is fairly valued; however, I think there’s room for traders and longer-term investors to make money. Buy HAR now. There’s upside resistance at 88 and again at 110. Buy.
Johnson Controls (JCI) operates in the areas of energy management, security and fire protection systems, and auto batteries. Johnson Controls completed its purchase of a 56% stake in Tyco International PLC (TYC) on September 2.
Here’s an update on JCI’s upcoming M&A activity:
• The company plans to spin off Adient (ADNT), its automotive seating & interiors business, on October 31, 2016. JCI shareholders will receive one share of ADNT—expected to be valued somewhere near $8 per share—for every 10 shares of JCI that they own. The ADNT spin-off is expected to be a taxable event. Therefore, consider the pros and cons of owning JCI when the ADNT spinoff occurs.
• Johnson Controls will host a Corporate Analyst Meeting on December 5.
JCI shot up 8% in early September when the Tyco purchase was completed, then came right back down. The stock is trading between 44 and 49. Buy.
Robert Half International (RHI) is a staffing and consulting company. RHI offers investors moderate earnings growth, a very strong balance sheet and a 2.3% dividend yield. The stock is now overvalued due to a decline in the earnings outlook. I expect RHI to rise to 41 in the short term. Hold.
Toll Brothers (TOL) is the leading U.S. luxury homebuilder. Toll’s CEO says the company repurchased 7% of its outstanding common shares year-to-date through mid-September. This news is surprising, since Toll’s outstanding share count previously decreased just once in the last four years—by 0.6% in fiscal 2015 (October year-end). EPS are expected to grow aggressively at 26.9% and 23.2% in 2016 and 2017, with corresponding P/Es of 11.6 and 9.4. TOL is a greatly undervalued, mid-cap growth stock. TOL surpassed upside price resistance at 30 in mid-August. I expect the stock to trade between 29 and 35 for a while. Traders and growth investors should buy now. Buy.
Vertex Pharmaceuticals (VRTX) is a biotech company that develops breakthrough drugs and carries them through to the manufacturing process. Vertex is a clear leader in the treatment of cystic fibrosis (CF), a disabling and deadly genetic disease affecting the lungs. Vertex has lengthy patent protection on the only two disease-modifying drugs within that rare-disease niche. The company’s projected one-, three- and five-year revenue growth rates are all significantly higher than its U.S. biotech peer group.
Vertex is expected to report this month on results for a new “triplet” pill for cystic fibrosis. The treatment combines Vertex’ currently marketed drug, ivacaftor (Kalydeco), with two additional drugs. In addition, the FDA will decide by September 30 whether to approve the use of Vertex’ CF drug, Orkambi, for children ages 6 to 11. (Approval is expected. Non-approval would lead to a drop in the share price.) In addition, the primary completion date for the Phase III trial of another Vertex therapeutic treatment has just been moved up from July 2017 to March 2017. Investors can read more about Vertex’ drug pipeline in this September 16 Barron’s article.
Vertex will present at The Leerink Partners Roundtable Series in the late afternoon on September 28.
VRTX is a vastly undervalued, aggressive growth stock. Despite only one barely-profitable year between 2006 and 2015, Vertex is expected to earn $1.00 per share in 2016, $2.96 in 2017 (December year-end)—reflecting 196% earnings growth in 2017 with a 29.9 P/E—and to surpass $11.00 EPS by the year 2020. VRTX was my top stock pick for the coming year at the 2016 Cabot Investors Conference in August 2016.
VRTX is having a pullback after its summertime run-up, with price support in the low-90s. You can see on the price chart that VRTX bounces rapidly between the top and bottom of its trading ranges. Therefore, I anticipate a quick return to the low 100s. Buy VRTX now. There’s upside resistance at 110, in the low 130s, and again at the August 2015 high of 141. Buy.