What Might the Stock Market Do Next?
Now that the stock market correction finally arrived, I want to sketch out what investors can expect in the near future. Everything I’m about to say is predicated on the supposition that nothing wildly unusual takes place, such as nuclear war, a huge California earthquake or other grand-scale event.
The stock market fell 10% earlier this month. That’s a big drop—not unexpected, but still significant. It would be normal for the S&P 500 to subsequently trade up and down between 2,600 and 2,900 for weeks or even months.
Here’s an analogy: Picture a rubber bouncing ball that you toss to your grandchild, Sam. The first bounce is the biggest bounce. Then the ball bounces several more times as it approaches Sam, with each bounce being less dramatic than the previous bounce. When I say that the stock market needs to trade sideways for a while after the big drop in early February, the bouncing ball is your visual. I’d like to add, though, that the gravity that pulls the ball down to the floor does not exist with stocks, and in fact it would be far preferable to see stock market bounces get smaller and smaller on the top of the price chart, rather than on the bottom of the price chart.
As with the bouncing ball, the pent-up energy on the part of the buyers and sellers needs to dissipate before the market can relax and breathe and decide what it would like to do next. Expect the market to have somewhat exaggerated movement for a while. Figure out which stocks you’d like to own at lower prices, because odds are decent that those lower prices will show up in the coming weeks.
Something Interesting Just Happened with Phillips 66
Last week, Warren Buffett sold $3.3 billion of his holdings in Phillips 66 (PSX) back to Phillips. He specifically pared back his position to 9.8% of Phillips’ outstanding common shares to avoid jumping through the regulatory hoops that are required of 10% shareholders. That’s an amazing move. I can’t say I’ve ever witnessed such a thing, so of course I’m trying to figure out “what’s really going on.” PSX is a fantastic investment. You don’t sell $3.3 billion of stock in an undervalued company with incredible earnings growth and a big dividend yield simply because you want to save a few dollars on corporate attorney fees!
Perhaps Buffett is about to make a big purchase in the energy industry, and his over-10%-interest in PSX somehow conflicted with his M&A strategy? I’m not a regulatory expert so I just don’t know.
Another possibility that seems credible to me is that Buffett is playing chess with the Trump administration. We know there are new folks in charge of various regulatory agencies, and we know that the Trump administration is focused on easing the quagmire of government regulations. Maybe Buffett made that move in order to push the U.S. Securities and Exchange Commission to commence regulatory reform in the area of stock ownership. Totally bold move! If I were running a pro-business White House, I’d turn pale at the idea that our country’s regulations were so burdensome that business tycoons would rather hold cash than stock, simply because my government made stock ownership outrageously burdensome. I would have picked up the phone and promptly contacted Buffett, presuming that it was legal for me to do so.
Again, I’m speculating. We don’t know Buffett’s goal, but we might see a government reaction in the area of SEC regulations later this year.
As for Phillips 66, the company just repurchased $3.3 billion shares of stock. If they don’t promptly sell those shares to pension funds and other institutional investors, that’s going to be bullish for both earnings estimate revisions and the share price.
Send questions and comments to crista@cabotwealth.com.
Quarterly Earnings Release Calendar
February 22 am: Quanta Services (PWR) – 4Q
February 22 pm: Universal Electronics (UEIC) – 4Q
February 26 pm: Delek US Holdings (DK) – 4Q
February 27 pm: Supernus Pharmaceuticals (SUPN) – 4Q
Virtually all companies offer extensive information on their websites pertaining to their quarterly earnings releases, often including slide shows or webcasts.
Earnings Season Scorecard
Big Earnings Beat: Alexion Pharmaceuticals (ALXN), BB&T Corp. (BBT), Bank of America (BAC), CIT Group (CIT), Knight-Swift Transportation (KNX), Martin Marietta Materials (MLM), Morgan Stanley (MS), Nucor (NUE), Schlumberger (SLB), WestRock (WRK) and XL Group (XL)
Slight Earnings Beat: Apple (AAPL), Baker Hughes, a GE Co. (BHGE), Blackstone Group (BX), Chipotle Mexican Grill (CMG) and Interpublic Group (IPG)
Earnings in Line with Estimate: ConocoPhillips (COP), PulteGroup (PHM) and Southwest Airlines (LUV)
Slight Earnings Miss: Alphabet (GOOGL)
Big Earnings Miss: Mattel (MAT)
Portfolio Notes
Be sure to review the Special Bulletin from February 14 in which I mentioned news, rating changes and/or price action on Chipotle Mexican Grill (CMG), Interpublic Group (IPG) and Martin Marietta Materials (MLM).
Buy-Rated Stocks Most Likely* to Rise More Than 5% Near-Term:
BB&T Corp. (BBT)
Baker Hughes, a GE Co. (BHGE)
GameStop (GME)
KLX Inc. (KLXI)
Knight-Swift Transportation (KNX)
Schlumberger (SLB)
*I can review price charts and make an educated determination about what’s likely to occur, but I will sometimes be wrong. I cannot control the stock market; I can only guide you through it.
Today’s Portfolio Changes:
(none)
Last Week’s Portfolio Changes:
Alphabet (GOOGL) moved from Buy to Strong Buy.
Bank of America (BAC) moved from Buy to Strong Buy.
BB&T (BBT) moved from Buy to Strong Buy.
Chipotle Mexican Grill (CMG) moved from Buy to Hold.
Interpublic Group (IPG) moved from Strong Buy to Buy.
Knight-Swift Transportation (KNX) moved from Buy to Strong Buy.
Martin Marietta Materials (MLM) moved from Buy to Strong Buy.
Morgan Stanley (MS) moved from Buy to Strong Buy.
Nucor (NUE) moved from Buy to Strong Buy.
Updates on Growth Portfolio Stocks
Alphabet Cl. A (GOOGL) – Alphabet is the world’s largest internet company. Revenue is derived from Google’s online ads, with the balance coming from the sale of apps, digital content, services, licensing and hardware. Wall Street expects EPS to grow between 17% and 29% per year over the next three years. Those numbers came down a bit in recent weeks, but it’s too soon to tell whether they’ll stabilize or keep falling. The stock is slightly undervalued. GOOGL has begun its rebound from the recent correction. The stock is most likely to trade between 1,060 and 1,190 in the coming weeks. Strong Buy.
Apple (AAPL – yield 1.5%) manufactures a wide range of popular communication and music devices. While the 2018 consensus earnings estimate for AAPL continues to slowly rise, the estimates for fiscal 2019 and 2020 (September year-end) really jumped last week. (Big changes in earnings estimates usually generate analyst research reports, which in turn generate investor interest in the stock.) The stock is quite undervalued. I expect AAPL to trade between 162 and 178 in the coming weeks. Strong Buy.
Bank of America (BAC – yield 1.5%) is significantly undervalued, and expected to see EPS grow 37% in 2018. Financial stocks held up well during the market correction. BAC is most likely to trade between 29.5 and 32.5 in the near term. Strong Buy.
CIT Group (CIT – yield 1.2%) operates both a bank holding company and a financial holding company that provide financing, leasing and advisory services to small and middle-market businesses, consumer markets, and the real estate and railroad industries. CIT is significantly undervalued, and expected to see EPS grow 31% in 2018. Financial stocks held up well during the market correction. CIT began reaching new all-time highs last week. Weakness in the broader market could easily bring CIT down to 52. Buy now and buy on pullbacks. Strong Buy.
ConocoPhillips (COP – yield 2.1%) is a global energy exploration and production company. Analysts are stumbling over each other in a race to increase ConocoPhillips’ earnings estimates each week. The 2018 consensus EPS estimate is now more than double the estimate from four months ago, and still rapidly rising. However, the 2019 EPS growth rate is thus far projected to be tiny (although that number is rapidly rising as well). COP will likely trade between 53 and 60 in the coming weeks. Strong Buy.
KLX Inc. (KLXI) is an undervalued, small-cap aggressive growth stock in the aerospace and energy services industries. KLX has been approached by several potential buyers. KLX hired Goldman Sachs in December to handle the potential M&A transaction, but there has been no recent news on the topic. KLXI is quickly recovering from the market correction. Strong Buy.
Knight-Swift Transportation Holdings (KNX – yield 0.5%) is a new truckload carrier formed from the September 2017 merger of Knight Transportation and Swift Transportation Company. Earnings estimates are rising weekly. The market now expects 2018 and 2019 EPS to grow 63.8% and 20.4%. The stock remains significantly undervalued. The KNX price chart is signaling a near-term breakout. Buy KNX now. Strong Buy.
Martin Marietta Materials (MLM – yield 0.8%) is a supplier of crushed stone, sand, gravel, cement, concrete and asphalt. See the February 14 Special Bulletin regarding Martin Marietta’s strong fourth-quarter earnings beat. This aggressive growth stock is fairly valued. MLM is now ratcheting upward from the recent price correction. There’s 11% upside for traders as MLM retraces its January high of 240. At that time, I plan to make room for a portfolio stock that’s more undervalued. Strong Buy.
PulteGroup (PHM – yield 1.2%) is a U.S. homebuilder and a very undervalued aggressive growth stock. EPS are expected to grow 50% and 13.6% in 2018 and 2019, and the 2018 P/E is just 9.6. PHM stabilized after the market drop, and appears willing to rise soon. Buy PHM now. Strong Buy.
Quanta Services (PWR) provides specialized infrastructure and network services to the electric power, oil and natural gas industries. The company is expected to report fourth-quarter earnings per share of $0.44 on the morning of February 22, with a range of $0.41 to $0.46. Quanta Services was featured in the February issue of Cabot Undervalued Stocks Advisor. PWR is an undervalued aggressive growth stock. The share price has begun its recovery. Buy PWR now. Strong Buy.
Southwest Airlines (LUV – yield 0.8%) is the largest U.S. domestic air carrier, transporting over 120 million customers annually to over 100 locations in the U.S., Central America and the Caribbean. Consensus earnings estimates have been rising since late November. Analysts now expect 2018 EPS to grow 42%, and the P/E is just 11.7. The stock has begun its recovery. Buy LUV now. Strong Buy.
XL Group (XL – yield 2.0%) is an insurer and reinsurer, and an undervalued mid-cap stock. I reported in a Special Bulletin on February 8 that Allianz made public statements pertaining to its interest in buying XL Group. According to one large investment firm, recent M&A activity in the industry took place at 1.4—1.7 times book value, which puts a potential buyout price for XL in the range of $53-$65. The stock is rapidly approaching 46, where it last traded in July 2017. Traders need to decide whether you’re going to trade out shortly, or keep the stock for potential M&A activity. Expect volatility. Strong Buy.
Updates on Growth & Income Portfolio Stocks
BB&T Corp. (BBT – yield 2.4%) is a 145-year-old financial holding company with $222 billion in assets and 2,100 financial centers that serve businesses and individuals. BBT is an aggressively growing large-cap stock with a low P/E. BBT recovered quickly from the market correction, and appears capable of reaching and surpassing its recent all-time highs quite soon. Strong Buy.
Blackstone Group LP (BX—yield 7.8%) is the world’s largest and most diversified alternative asset manager with $434 billion in client assets. The company raises tens of billions of dollars from investors and deploys the capital into private equity, lower-rated credit instruments, hedge funds and real estate. Here are some great interviews with Blackstone Group CEO Stephen Schwarzman about his $25 million donation to his public high school and investment markets and comments on interest rates. BX offers a combination of attractive net income growth, a large quarterly payout, and a low P/E. Blackstone Group was featured in the February issue of Cabot Undervalued Stocks Advisor. BX will likely trade between 33 and 36 in the near term. Strong Buy.
*The payout varies each quarter, with the total of the last four announced payouts yielding 7.8%.
Commercial Metals Company (CMC – yield 1.8%) is a recycler and manufacturer of steel and metal products, including rebar and fence posts. CMC is an extremely undervalued stock, expected to grow EPS aggressively for the next three years. Steel stocks rose rapidly last week, which caught me off guard. CMC looks like it will continue rising immediately. Buy CMC now and buy on pullbacks. Buy.
GameStop (GME – yield 9.3%) is a retailer of games, collectibles and technology, with additional ventures in the entertainment field. I discussed recent management changes and the near-term dividend declaration in a Special Bulletin on February 9. Despite very solid earnings, the stock is trading at a P/E of 5.0. GME appears quite ready to rise in the coming weeks, presuming a neutral-to-bullish stock market. There are a variety of potential upside catalysts to the share price as the market responds to the appointment of the new CEO, his vision for the company, management shake-ups, the next dividend decision, and the coming rebound in the broader stock market. Buy.
The Interpublic Group of Companies (IPG – yield 3.3%) is a large conglomerate of advertising, marketing, communications and public relations companies serving all global markets. See the February 14 Special Bulletin regarding Interpublic’s good fourth-quarter results. The market was pleased at the pace of rising global advertising revenue, and increases in the dividend and the share repurchase authorization.
IPG is an undervalued growth & income stock with an attractive rising annual dividend. Analysts increased their earnings estimates for 2018 and 2019 after Interpublic reported 2017 results. The company is expected to see 2018 EPS grow 17.5%, and the P/E is 14.8. IPG shot upward last week, slightly past its all-time high from July 2017. I expect the stock to have a pullback, then begin reaching new highs shortly thereafter, presuming a neutral-to-bullish stock market. Buy.
Morgan Stanley (MS – yield 1.8%) is a major U.S. investment bank and wealth manager, and an undervalued, large-cap growth stock. Analysts are expecting EPS to grow 25.8% in 2018, and the P/E is 12.2. MS will likely trade between 52 and 57.5 in the near term. Strong Buy.
Nucor (NUE – yield 2.2%) is a low-cost producer of a diversified portfolio of iron and steel products, and an undervalued mid-cap growth stock. Analysts are expecting EPS to grow 39.5% in 2018, and the P/E is 13.8. Steel stocks are showing tremendous strength. Buy NUE now and buy on pullbacks. Strong Buy.
Schlumberger (SLB – yield 3.0%) is the world’s largest oilfield service company. SLB is a large-cap stock that’s going through a cyclical aggressive growth phase. Analysts are expecting EPS to grow between 40% and 47% per year in each of the next three years. SLB gave back all the gains from its big January run-up. The share price has stabilized. There’s 21% upside as the stock retraces its January high. Buy SLB now. Buy.
WestRock Company (WRK – yield 2.6%) is a major player in the global packaging and container industry. Earnings estimates for 2018 (September year-end) have been rising for nine weeks. Analysts are expecting EPS to grow 50.8% in 2018, and the P/E is 16.8. The stock is roaring back toward its January high. I expect WRK to trade between 62 and 70 in the coming weeks. Strong Buy.
Updates on Buy Low Opportunities Portfolio Stocks
Alexion Pharmaceuticals (ALXN) is a biopharmaceutical company that researches and manufactures treatments of severe and rare health disorders. Earnings estimates rose last week. Analysts now expect 2018 and 2019 EPS to grow 16.7% and 23.2%. The corresponding P/Es are 17.6 and 14.3. I think investors will do well with ALXN this year, but I also expect volatility. Dollar cost averaging would be a good approach to accumulating a position in ALXN. Strong Buy.
Baker Hughes, a GE Co. (BHGE – yield 2.7%) offers products, services and digital solutions to the international oil and gas community. Analysts expect 2018 and 2019 EPS to grow 93.0% and 90.4%. The corresponding P/Es are 32.0 and 16.8.
News stories last week speculated about General Electric (GE) possibly selling its large stake in BHGE to raise much-needed capital, or alternately buying the balance of shares in BHGE to benefit from Baker Hughes’ financial successes and dividends. If GE wanted to sell some or all its shares in Baker Hughes, the effect on the Baker Hughes stock would likely be negligible, presuming that GE handles the sale of the stock in an optimal manner. Wall Street would essentially find buyers such as pension funds, Blackstone Group (BX) and Warren Buffett, etc., and broker a deal so that the shares don’t get dumped on the open market. Such a sale of stock took place last week when Warren Buffett sold $3.3 billion of Phillips 66 (PSX) shares back to Phillips.
GE’s ownership of a large stake in Baker Hughes casts a bit of a pall over BHGE for investors, from an emotional point of view, but GE management does not run Baker Hughes and cannot harm the company’s operations. The more shares GE sells, the more the emotional cloud would be lifted from BHGE stock.
Conversely, there is talk that GE should consider buying the remaining shares of Baker Hughes. I don’t see that as a credible scenario, because the purchase would constrict GE’s cash flow and increase debt levels at a time when GE is intricately involved in untying unproductive business constraints to fund cash flow needs and pension shortfalls. A sale of shares in Baker Hughes would likely signal the degree to which GE is desperate to raise cash, not unlike a divorced mom selling family jewelry to pay the rent.
BHGE fell dramatically with energy stocks during the market correction, and appears to have bottomed. There’s 39% upside as BHGE retraces its January high. Buy BHGE now. Strong Buy.
Chipotle Mexican Grill (CMG) is a growing restaurant chain, and an aggressive growth stock. Last week, Chipotle hired Brian Niccol as the company’s new Chief Executive Officer. Mr. Niccol was previously CEO at Taco Bell, where he took over in 2005. The market is very pleased with Mr. Niccol’s selection, gaining confidence that the company and its reputation will recover from its recent foodborne illness scandals. Analysts expect EPS to grow 28.5% and 27.2% in 2018 and 2019. CMG rose 20% in recent days following the new CEO appointment, and could reach 345 in the short term as it retraces its January high. Hold.
Delek US Holdings (DK – yield 1.8%) is a diversified downstream energy company and a small-cap stock that was featured in the February issue of Cabot Undervalued Stocks Advisor. Delek will announce fourth-quarter results on the afternoon of February 26. The market is expecting $0.39 EPS, with a range of $0.30 to $0.54. DK is likely to trade between 31 and 39 in the coming weeks. Strong Buy.
Supernus Pharmaceuticals (SUPN) focuses on the development and commercialization of products for the treatment of central nervous system diseases and psychiatric disorders, including epilepsy and ADHD. Supernus will announce fourth-quarter results on the afternoon of February 27. The market is expecting $0.27 EPS, with a range of $0.19 to $0.33. There’s 22% upside as SUPN retraces its January high. Expect volatility, and buy SUPN now. Strong Buy.
Universal Electronics (UEIC) is a manufacturer and cutting-edge world leader of wireless remote control products, software, and audio-video accessories for the smart home, with a strong pipeline of new products. Analysts expect earnings per share of $0.62 when Universal Electronics reports fourth-quarter results on the afternoon of February 22, with a range of $0.60 to $0.63. Expect volatility. Dollar cost averaging over several weeks would be a good approach to accumulating a position in UEIC. Strong Buy.
