Note that Cabot Benjamin Graham Value Investor issues will publish on the second Thursday of the month, and Weekly Updates will be published on all other Thursdays.
In the Weekly Update, I summarize the latest news for companies reporting earnings or other newsworthy events in the past week. Prices appearing after each stock symbol in this Update are the closing prices on October 18, 2017.
Market Update
The market continued to move higher this week, led by technology (+0.7%) and consumer goods (+0.7%). The U.S. inflation rate increased 2.2% year over year in September, marginally missing the market’s expectation of 2.3%. The increase in inflation was mostly led by a 10.1 % year-over-year increase in energy prices due to hurricane-related production disruption on the Gulf Coast. We also saw pricing pressure on new auto vehicles (-1%), used cars (-3.7%) and apparel (-0.2%). The pricing pressure could slightly impact the top line of some of our auto-related stocks, such as LKQ Corp (LKQ), Gentex (GNTX) and Magna International (MGA).
Allergan (AGN 186.57)
One major news item that hit one of our stocks adversely is the Federal judge’s rule against Allergan’s plan to use Native American sovereignty to protect six patents associated with its blockbuster dry eye drug, Restasis. The new court decision will clear the way for generic manufacturers to produce drugs similar to Restasis at much lower cost.
Restasis contributes around 9% of Allergan’s $15 billion sales. Due to the relatively higher profit margin of Restasis, the drug contributes around 15% to the bottom line. Should Allergan’s appeal to the Federal Court not succeed, I expect near- and long-term competition from generic drug manufacturers. In the worst case, there would be a $1.5B hole in two years’ revenue due to the disappearance of Restasis—but that is unlikely because Allergan will continue to hold a portion of its market share despite the new generic entrants. Considering Allergan’s strong pipeline and solid free cash flow, I wouldn’t panic at the current price decline. However, I recommend that you sell some of your Allergan shares to avoid the future uncertainties. I will be downgrading Allergan in the next issue. Sell Some Shares.
As a reminder, I will continue to narrow the focus of Cabot Benjamin Graham Value Investor in the weeks ahead, while still maintaining sufficient diversification for safety. If you hold approximately 20 stocks in your portfolio, and no single stock holding is larger than 10% of your portfolio, your portfolio will be sufficiently protected from downside risk.