Month: January 2017
Dow Jones’ 20,000 Milestone Gives Pause for Reflection
Posted: January 31, 2017
As a 25-year old reporter for the Associated Press, I wrote the stories that appeared in many of the nation’s newspapers when the Dow Jones Industrial Average first broke 1,000 on Nov. 14, 1972.
Now that the Dow has cracked the 20,000 barrier, it inspires a lot of thoughts.
The first thought is that the United States’ economic system is inherently strong. Gloom-and-doom prognosticators are likely to lose a lot of money — or at least leave a lot on the table. After all, the Dow has gained 1,900 percent since that day, which I still remember well.
Wrong Worries
My second thought is that I disagree with people who think when the market hits a record, it is “high” and therefore a bad time to invest.
Ned Davis Research Inc., my favorite market-research firm, has studied this question in depth. It examined 40 significant milestones on the Dow, from 100 (in 1906) to 18,000 (in 2014).
On average, the Dow advanced 9.9 percent in the year after hitting a milestone.
That’s better than the normal annual gain in the index, which is 6.6 percent a year.
Bear in mind that the Dow Jones industrial average doesn’t include dividends; it’s a price-only index. Throw in dividends, and stocks have historically returned an average of 9 percent to 10 percent a year, over decades — admittedly with a lot of ups and down.
Better Worries
So, in my judgment, Dow 20,000 is not a reason to worry about the course of the market. There are other valid reasons to worry, however.
• Valuations are high. The average stock in the S&P 500 index sells for about 26 times earnings, up from 21 a year ago. (Historically, normal is about 15.) It sells for more than three times book value (corporate net worth), also rich.
• President Trump is inexperienced politically and untested internationally. A sharp dispute with Mexico probably won’t upset the markets too much, in my opinion. But a clash with China or Russia might. Any setback in the fight against terrorism could spook the markets.
• The stock market has been up eight calendar years in a row. That is the second longest winning streak on record, the longest being nine calendar years from 1991 through 1999. These things don’t go on forever.
• Interest rates are rising, and are likely to rise some more. Soon it will be time to dust off market pundit Edson Gould’s old rule about “three steps and a stumble,” suggesting that when the Fed raises interest rates three times, investors should start to worry.
Strategy
That’s why I have taken some steps that I hope will reduce my clients’ risk. Most of the client portfolios I manage have about 24 percent of the money in stocks based outside the country. We are, for the first time in years, buying a little gold.
I’ve also raised a little cash in most client accounts, intended to help me snatch up bargains if they should become available in a market decline.
Do I expect a significant decline in 2017? No. My guess is that the market will trace a zig-zag course with lots of chills and spills, but end the year up. Corporate profits are likely to be strong. Cuts in personal and corporate taxes would probably boost stocks, as would reduction in regulations.
However, investing is a game of probabilities. While I don’t predict a decline, one wouldn’t be surprising, given the circumstances I’ve laid out above. I will strive to make volatility the friend of my clients, not their enemy.
2013 Prediction
On March 22, 2013, I made a rather bold prediction on CNBC television. I said I expected the Dow to hit 25,000 sometime in 2017. At the time, the Dow was at 14,421.
It looks now like I was too optimistic. If my prediction comes true this year, I will be surprised. For it to pan out, the Dow would have to rise 27 percent this year, or 24 percent from its January 27 level.
That’s unlikely. However, it’s not impossible. Since Charles Dow created his index in 1896, the Dow has risen 25 percent or more in a year 22 times. It has happened at least once in every decade except for the 1960s. The most recent times were 2003 and 2013.
Like most professional investors and stock-market pundits, I’ve passed through three phases. At first, I believed that some people could predict the market, but not me. Then I believed that most people couldn’t, but I could. Finally, I came to view the market as unpredictable, but endlessly fascinating.
Facts and Myths about January in the Stock Market
Posted: January 24, 2017
The January Barometer in the stock market is broken. The January Effect is looking a little wobbly. The January Rebound is alive and well.
No month except October has as much stock market lore associated with it as January. October is famous and feared as the month of crashes — most notably in 1929 and 1987. The January legacy is more complex.
You may have heard about the January effect. It is actually a confluence of three tendencies. (a) Stocks in general tend to rise in January. (b) Small stocks usually do well in the year’s first month. (c) Last year’s losers often bounce back. This phenomenon is often called the January Rebound.
How is the January effect doing this year? Small stocks haven’t done well, but the rest of the effect seems to be going as usual.
- Through January 20, the market as a whole, as measured by the Standard & Poor’s 500 Index, had risen 1.54%.
- Small stocks, as measured by the Russell 2000 Index, were down 0.35%.
- Last year’s big losers, as measured by a small-scale study I did over the weekend, were up 4.47%.
In the study, I looked for the ten biggest losers in the Standard & Poor’s 500 Index during 2016. Then I measured their performance in the first twenty days of this year. That’s too small a sample to draw firm conclusions, but the finding was in keeping with both logic and experience.
The Rebound
The January Rebound of the previous year’s losers is a tax-driven phenomenon, and it happens in many countries, not just in the U.S.
In November and December, investors frequently sell their losers in order to benefit from a tax deduction. The stocks that are kicked while they’re down, because of tax selling, may be driven below their intrinsic value. That’s why they often bounce back strongly in the new year.
Speaking of the January rebound, on November 15 last year I offered three suggestions for stocks that could benefit from the rebound, and that I also thought were decent bets for all of 2017. They were Ericsson Telephone Co. (ERIC), First Solar Inc. (FSLR) and Myriad Genetics Inc. (MYGN).
Through January 20, Myriad Genetics had continued to fall, down 6% in the still-young year. Ericsson was up less than 1% and First Solar had risen 8%.
The Barometer
Another aspect of the stock market’s January lore is the so-called January Barometer. It states that as January goes, so will go the full year.
Of course, January is a part of the year it is supposed to predict. So, a more meaningful question is whether January predicts the market’s course in the ensuing 11 months.
I have researched this question for all years from 1950 through 2016, using the Standard & Poor’s 500 as my measure of the market. Measured the crude way, the barometer has been right 75% of the time. Measured the better way (market action in the ensuing 11 months) it’s been right 69% of the time.
That might sound fairly good. But if you simply guessed every year that the market will be up, you would have been right 83% of the time for the full 12 months, and 80% of the time for the final 11 months of the year.
The barometer has been wrong in each of the past three years. In each case, January was down but the year was up.
That’s no fluke. In general, the barometer is a poor gauge when January is down. It predicts the next 11 months correctly in only 41% of the cases.
Since January isn’t yet over, it’s too early to tell what the barometer portends for this year. But I think you can see by now why I don’t care.
My Prediction
If calendar effects don’t tell us what will happen in the market, how should we handicap it?
You can start with the simple historical odds. From 1950 forward, the market is up more than four years out of five. Add to that a strengthening economy, interest rates that are still low, and prospects for reduced regulation and smaller taxes under a Republican regime. That’s the good part.
Potential negatives include the likelihood that interest rates will rise, continuing terrorist threats, high valuations on U.S. stocks, and the possibility of market surprises from President Trump, who is politically and diplomatically inexperienced.
My personal prediction is that 2017 will be an up year, maybe to the tune of 10%, but with severe gyrations along the way.
Casualty List Did Well Last Quarter
Posted: January 17, 2017
Bring that ambulance over here! Each quarter I write about some injured stocks that I think have an excellent prognosis for recovery. I call it the Casualty List.
Based on fourth-quarter price action, I have put Myriad Genetics Inc., Akorn Inc., Hibbett Sports Inc. and PVH Corp. on the Casualty List. They fell in the quarter, even as the S&P 500 marched forward 3.8 percent.
The column you are reading contains my 55th Casualty List. On average, the stocks selections from the first 51 lists have returned 18.1 percent in 12 months. By comparison, the average 12-month gain for the Standard & Poor’s 500 Index was 9.1 percent. All figures are total returns, including dividends and price change.
The Casualty List has been profitable 36 times out of 51, and has beaten the S&P 500 Index 29 times.
Bear in mind that my column recommendations are theoretical and don’t reflect actual trades, trading costs or taxes. Their results shouldn’t be confused with the performance of portfolios I manage for clients. And past performance doesn’t predict future results.
LAST YEAR
The list from January 2016 gained 38.1 percent, versus 23.6 percent for the index. Green Brick Partners Inc. (GRBK), a homebuilder, led the charge with an 83.9 percent gain. Spirit Airlines Inc. (SAVE) chipped in a 49.3 percent advance.
Polaris Industries Inc. (PII) and China Life Insurance Co. (LFC) were up 11.3 percent and 7.7 percent respectively. I still like Green Brick, in which hedge fund manager David Einhorn has a big stake.
I no longer recommend the other three. Spirit Airlines now appears fairly valued, given that airline stocks may now have squeezed most of the benefit from industry consolidation and reduced fuel prices. Valuations on the other two seem high.
MYRIAD GENETICS
And now for some new casualties.
I’ll start with Myriad Genetics (MYGN), a stock my friend and colleague Tom Macpherson is fond of. In the fourth quarter, it fell 19 percent.
Based in Salt Lake City, Myriad is a leader in genetic testing. Over the next five to 10 years, I expect genetic therapy to come into wider use, and genetic testing is obviously the prelude to such therapy.
The company is pretty small at present. With a market value of $1.1 billion, it just barely qualifies as a mid-sized stock. Its revenue last year was $754 million.
Often stocks with a sexy story sell for high multiples, but Myriad’s valuations are reasonable: 13 times recent earnings, and less than two times sales and book value (corporate net worth per share).
AKORN
Down almost 20 percent in the fourth quarter was Akorn Inc. (AKRX), a generic drug company based in Lake Forest, Ill. Akorn’s revenue has grown at a 21 percent annual clip the past 10 years. Yet charmingly, the stock sells for just 15 times recent earnings and about 10 times estimated 2017 earnings.
Why is it cheap? Drug stocks in general have been hit by uncertainty over the repeal of Obamacare and by President-elect Trump’s stated desire to bring down drug costs. But in my judgment, generic drug companies like Akorn are a lower-cost alternative, and hence should suffer less.
HIBBETT
Hibbett Sports Inc. has increased its revenue at the rate of 12 percent a year for the past decade. Revenue growth in the latest 12 months was about the same. So why was Hibbett down more than 6 percent in the fourth quarter?
I think the company is being tarred with the broad brush that “brick-and-mortar retail stores are dead because no one can compete with Amazon.” To me, that statement is too pat. For many sports items — from baseball gloves to fishing poles — fit and feel are important. To assess that, you must visit the store.
I think Hibbett shares, which sell for about 0.8 times revenue and about 11 times earnings, are a good buy here.
PVH
PVH Corp. (PVH), whose initials stand for Phillips-Van Heusen, is one of the world’s largest makers of shirts and other clothing. Its brands include Arrow, Calvin Klein, Izod, Speedo, and Tommy Hilfiger.
The company’s revenue growth has slowed in recent years, but the trend in earnings and cash flow has been good. The stock fell 18 percent in the fourth quarter, as brick-and-mortar stores were struggling and PVH lowered its earnings guidance.
Positive points include valuation (12 times earnings and 0.9 times revenue), strong brands with consumer loyalty and recent heavy buying of PVH call options by speculators.
Disclosure: My firm owns Green Brick Partners for one client, and Myriad Genetics for another client.
Analysts’ Reviled Stocks Often Outperform Those They Tout
Posted: January 10, 2017
If you put faith in analysts’ stock picks, I might shake your faith a little.
For 18 years, I have tracked the total return on the four stocks analysts love the most at the beginning of the year, and the four they most disdain.
The analysts’ darlings have beaten their despised stocks nine times, and lost to them eight times. There was one tie. The average total returns (including dividends) are 9.2 percent for the analysts’ top choices versus 8.3 percent for the stocks they hate.
That’s a slim margin of victory. Neither group of stocks beats the S&P 500, which has averaged 11.2 percent. Only six out of 18 times have the analysts’ top picks beaten the index.
My analysis covers 1998 through 2016, with the exception of 2008, when I was temporarily retired.
Cliffs Triumph
Last year, the most-hated stocks won, thanks entirely to a 572 percent gain for Cliffs Natural Resources Inc. (CLF), an iron mining company that specializes in iron-ore pellets used by the steel industry.
Iron ore prices increased last year, and Cliffs stock benefitted from hope that a Trump administration will reduce imports of Chinese steel.
As a group, the despised stocks rose 96.5 percent from Jan. 13, 2016, through Jan. 6, 2017. The analysts’ four favorites gained 11.3. The S&P 500 Index returned 20.0 percent.
Among the analysts’ darlings, the best performer was Ally Financial Inc. (ALLY), up 23 percent. Sabre Corp. (SABR) did worst, with a 3 percent loss.
Current loves
As 2017 dawns, the top object of analysts’ love is Alphabet Inc. (GOOG), parent to Google. Thirty-eight analysts cover it, and all rate it a buy.
Alphabet shares carry considerable risk, selling for more than six times revenue, four times book value (corporate net worth) and 29 times recent earnings.
If interest rates continue to rise, stock-market valuations are likely to compress which could hurt higher-priced shares such as Alphabet. Any high-flying stock can be vulnerable to unpleasant surprises.
Second most popular, with 14 “buy” ratings and no “sell” or “hold” ratings, is Incyte Corp. (INCY). The Wilmington, Del., company is working on cancer drugs. Incyte’s valuations are over the moon. Its stock sells for 294 times recent earnings, 77 times estimated 2017 earnings, almost 20 times revenue and 68 times book value.
Third most loved, with 13 analysts unanimously recommending it, is Envision Healthcare Corp. (EVHC) of Nashville. It operates selected departments within hospitals and ambulatory surgical centers, such as general surgery, radiology, anesthesiology and ambulance service.
In the past five years, Envision has grown revenue and book value at an excellent clip, about 17 percent. But analysts aren’t paying enough attention to valuations. Envision sells for 100 times recent earnings.
For the second year in a row, LKQ Corp. (LKQ) landed on analysts’ adored list with 12 recommendations and no dissents. Based in Chicago, it distributes replacement auto parts and auto-repair equipment. It is not as expensive as the three stocks mentioned above, but it appears that its growth is slowing.
Newly Hated
Which stocks do analysts hate as 2017 begins? First on the blacklist is Credit Acceptance Corp. (CACC), rated a “sell” by eight analysts out of 12. It provides car loans through auto dealerships. The company’s debt has been rising, a possible danger sign. It specializes in loans to customers with poor credit ratings, meaning a bigger risk of defaults if the economy turns sour.
Owens & Minor Inc. (OMI) carries a sell rating from five analysts out of eight. The distributor of medical supplies has seen revenue growth slow and profit margins shrink.
Wesco Aircraft Holdings Inc. (WAIR) distributes bearings and other components to the aerospace industry. It suffers from slowing growth and shrinking margins. But the stock is pretty cheap at 1.0 times revenue and 12 times estimated 1027 earnings.
Heartland Express Inc. (HTLD), a trucking company, is branded a “sell” by six of 12 analysts. Its profits have headed down lately, but the company is debt-free.
Which will do better in 2017 — the analysts’ adored stocks, or the despised ones? My money is on the despised stocks. They sell for much lower valuations, and in some cases I think their problems are exaggerated.
Disclosure: One of my clients owns a Cliffs Natural Resources bond. Other than that, I have no positions in securities mentioned in this article.
A Naïve Paradigm With An 18-Year Return of 1169%
Posted: January 03, 2017
Over the past 18 years, my “Robot Portfolio” has achieved a cumulative return of 1169%, compared to 249% for the Standard & Poor’s 500 Index.
The works out to a compound annual return of 15.16%, versus 5.21% for the index.
My “robot” is just a naïve stock picking paradigm that selects extremely cheap stocks. It works like this:
- Take all the U.S. stocks with a market value of $500 million or more.
- Eliminate those that lost money in the past 12 months and those that have debt greater than stockholders’ equity.
- Then simply choose the ten cheapest, as measured by the ratio of the stock price to the past four quarters’ earnings.
These are extremely out-of-favor stocks. The potential for gains is large, but so is the potential for losses. In the Robot’s two best years it made 97% in 2009 and 73% in 2013. But you’d need a lot of fortitude to stomach the two worst years, losses of 61% in 2008 and 31% in 2007.
Bear in mind that my column recommendations are theoretical and don’t reflect actual trades, trading costs or taxes. Their results shouldn’t be confused with the performance of portfolios I manage for clients. And past performance doesn’t predict future results.
Robot’s Record
I have been writing about the Robot Portfolio since 1999. It’s intended to illustrate my conviction that investing in cheap stocks, not popular ones, is the best road to stock-market profits.
I set the paradigm but a computer program picks the stocks. In recent years, I’ve been using a stock screening program from Ned Davis Research Inc.
In 18 annual trials, the Robot has shown a profit 14 times and beaten the S&P 500 Index 10 times.
Last year the paradigm showed a 4.11% profit but trailed the index, which advanced 11.96% including dividends. The best gainers were Greenbrier Companies Inc., up 31% and HP Inc., up 30%. Losers included PDL BioPharma Inc. (PDLI), down 38%, and Overseas Shipholding Group (OSG), down 34%.
Robot’s New Picks
Here are the 2017 selections from the Robot paradigm.
The cheapest stock, at three times earnings, is Atwood Oceanics Inc. (ATW), back on this list for a third straight year. Atwood is an offshore drilling specialist. I don’t expect offshore drillers to do well in 2017. Nevertheless, this stock is so cheap I think it might do okay.
Xenith Bankshares Inc. (XBKS), a bank based in Richmond, Virginia, is next cheapest at 3.7 times earnings. This bank has been shrinking in recent years but at the same time has become more profitable. Some insiders have been buying shares.
Career Education Corp. (CECO) weighs in at just 4.4 times earnings. For-profit colleges have been maligned for poor graduation rates, inferior job-placement rates, and a legacy of student debt. The Obama administration cracked down hard on these colleges. The Trump team is expected to be more lenient.
Baxter International Inc. (BAX) makes health care products, especially kidney therapies and hospital supplies. It was consistently very profitable from 2005 through 2014 but profits lately have become erratic. It now sells for just five times earnings.
Six More
Rowan Companies plc, out of Houston, is an offshore oil drilling company like Atwood, selling for five times earnings. My feelings on it are similar to what I said about Atwood.
First Solar Inc. (FSLR), based in Tempe, Arizona, is a leading supplier of solar power installations. President-elect Trump is expected to be less solar-friendly than President Obama was. But at 6.6 times earnings and 0.6 times book value (corporate net worth) this stock seems attractively cheap to me.
A small company making the Robot list this year is Farmer Bros. Co. (FARM) of Torrance, California, which makes and distributes coffee, tea, and food products. It sells for 6.6 times earnings, but a big portion of earnings last year consisted of income-tax adjustments.
Kelly Services Inc. (KELYA), a big temporary-help company, would seem to be in the wrong part of the economic cycle right now. As economic recoveries move along, employers usually hire more permanent workers and fewer temporary ones. Perhaps that’s why Kelly shares go for only 6.6 times earnings.
Back for a second year is Greenbrier Companies Inc. (GBX), a maker of railcars. After a good 2016 gain, it’s a little less cheap but I still like it a lot at 7.2 times earnings.
Until two months ago, ILG Inc. (ILG) was known as Interval Leisure Group Inc. The Miami, Florida, company operates vacation ownership resorts and time share resort properties. It has been profitable 13 years in a row but analysts expect profits to decline this year. The stock goes for 6.7 times earnings.
Disclosure: I own Greenbrier for a couple of clients.