Tariffs

  • 08 Nov
    Why government gridlock could be a good thing for these 2 sectors

    Why government gridlock could be a good thing for these 2 sectors

    October was a rough month for the stock market, proven by the decline of the NASDAQ and Dow Jones Industrial Average into clear correction territory, while the S&P 500 halted its own slide just shy of that mark. It was enough to put a lot of investors and analysts on edge and start to wonder if the good times were finally coming to an end.

    What a difference a week makes! After closing out the worst October, and one-month period in a decade, the market has rebounded strongly over the last week. The Dow is up a little over 6.6%, the NASDAQ 8.3%, and the S&P 500 6.7% in that time. This week may have provided an unexpected catalyst for the market to push back and retest the all-time highs set in late September. Mid-term elections on Tuesday left Democrats in control of the House of Representatives, while Republicans kept their spot in the driver’s seat in the Senate.



    Depending on your political view, a divided government may not be a good thing; major reforms or initiatives from either side of aisle become more difficult without one party in control of both houses of government. It isn’t unreasonable to suggest that one of the reasons President Trump could afford to be as confrontational as he has, with a consistent, “my way or the highway” attitude about everything from tax reform, trade and most certainly his major staff advisors and political appointees is because Republicans controlled Congress and the Senate. That usually meant that even if a lot of Republicans and conservatives criticized his approach, the party at large generally fell into line behind him.

    As an investor, it’s not always easy to separate investing discipline and objectivity from political opinion and preference. That becomes harder when politics have a clear and direct impact on economic progress and market behavior. The Tax Reform Act at the end of last year is a good example; the tax savings that became available almost immediately to corporate America were certainly a catalyst for the market’s recovery from its first correction at the beginning of the year. In that light, the impact that midterm elections has on the market now could come from the government’s likely inability for the next couple of years to push any major changes.

    I’ve always believed that if there is anything the market really doesn’t like, and is most likely to react negatively to, it’s change. Investors like predictability, and we rely on measurements that offer a certain level of reliability to guide investment decisions. The status quo means that the things we use to drive our decisions remain relatively constant, and we don’t have to worry as much about changing our method or our approach. When something threatens to change the investing landscape, investors naturally get nervous.



    After eight years of a long, sustained bullish run that made a lot of investors think the easiest and best way to make money way in the stock market was to buy a passive index fund and just let it ride – “invest it and forget it,” if you will – the market rediscovered volatility this year. A big part of that was influenced by openly aggressive and confrontational politics from the Trump administration. Tariffs imposed every one of America’s largest and most important trading partners may indeed prove to have been the right move in the long run, but the tensions that came from seeing those long-standing trade relationships continue to keep the market on edge. A split government may not be able to put the cat back int the bag of things the Trump administration has already put back in place, the lack of consensus is also likely to make continued progress and changes that much harder to come by. The hope that the market seems to be keying on right now is that a natural check from a split House against the Oval Office could help restore the status quo and give investors a return at least some kind of  predictability that can help keep the stock market’s bullish trend in place.

    Assuming this happens, it’s entirely possible that the market could stage yet another broad-based rally to a new set of all-time highs. Which are the sectors that might be the biggest beneficiaries? I think there are two; here they are.



    Industrials

    While a divided House may blunt many of the reforms and initiatives the Trump administration still has plans for, one of the things that both sides seem to agree on is the need for improved infrastructure. A major spending bill may be hard to come by, but any progress on this front should act as a positive for this sector. Consider also that tariff and trade concerns have put major pressure on the sector throughout the year; even with the sector’s rebound since the end of October, which is about 10% from October 30th to now as measured by the SPDR Industrial Sector ETF (XLI), it remains down by a little over 10% from its 52-week highs. That gives the industry lots of room to rally even more, with increased chances that the absence of political complications could contribute even more.

    Semiconductors

    This sector has been one of the biggest underperformers throughout the year, as pricing and supply pressures among chipmakers have pushed stocks lower. A major argument for the President’s aggressive trade stance towards China has centered around the semiconductor industry and concerns about intellectual property protections and even theft. Many of the pricing pressures that have pushed semi stocks lower may not abate quickly. I also think, however that a changed political reality could force the Trump administration to try to make a trade deal with China more quickly than it might do otherwise; and I would expect that to provide at least an emotional reason for investors to start making new bets on a sector that has been beaten down by almost 15%, based on the Ishares Semiconductor ETF (SOXX) from its 52-week highs.


  • 30 Oct
    The market is beating up transport stocks – but that also creates opportunity

    The market is beating up transport stocks – but that also creates opportunity

    Back in July, I wrote about Kansas City Southern (KSU), a mid-cap railroad company that isn’t extremely well-known outside of its normal operating region. Transportation stocks were a good bet throughout the summer, but as fall set in, the market has pushed the Dow Transportation Average down a little over 14% since early September. For KSU, who is the smallest Class 1 railroad in the United States, that broader industry decline has translated to a decline in its price as of this writing of almost 18%. More →

  • 24 Oct
    What is a good price for CAT?

    What is a good price for CAT?

    Yesterday marked another volatile day in the stock market, as the major indices posted big losses during the trading session – the Dow, for example bottomed out about 500 points below Monday’s close – but managed to claw back late to finish about .5% lower for the day. The market was chewing on a new round of earnings reports to mixed results. Caterpillar Inc. (CAT) was one of the biggest losers on the day, plunging more than 7.5% following its earnings report. More →

  • 28 Sep
    Which auto stock is a better investment right now: FCAU, GM or F?

    Which auto stock is a better investment right now: FCAU, GM or F?

    Earlier this week, I wrote about recent opinions I’ve seen that suggest that the stock market’s long, extended bullish run still has plenty of life left to keep going. One of the most compelling arguments supporting that opinion is the fact that, after the market’s big correction in the early part of this year, most of the market’s recovery has been led by beaten-down stocks in previously under-appreciated and oversold industries. That suggests the bullish momentum that has pushed the market higher since April when it found a corrective bottom is driven by an emphasis on value, which does offer some very compelling food for thought. Value-driven market rotation usually happens at the beginning of a bull market, not in the latter stages of one, so I think there could more than a little truth behind the notion.

    Let’s go ahead assume for the time being that this idea is correct; it begs the next question, which is naturally, where am I going to find the best values in the market right now? It’s one thing to tell you to look for beaten-down stocks in depressed industries; it’s quite another to actually recognize what some of those areas of the market are right now.



    As I previously mentioned, the auto industry is an area of the market that has really come under a lot of pressure. While the broad market has seen a nice rally since April of this year, the Big Three automakers have all seen significant drops in price. Fiat Chrysler Automotive (FCAU), Ford Motor Company (F) and General Motors Company (GM) are all down around 25% since reversing lower from their respective high points in April and June. Yes, a not-insignificant part of that drop has been driven by trade-related tensions with all four of America’s largest trading partners, and for as long as those tensions persist, there remains an element of risk that could keep pushing these stocks lower. Even so, the fact they are all down in bear market territory should at least have any sensible value-oriented investor sit up, take notice, and consider whether there is an opportunity worth thinking about.

    What follows is a comparison of all of the Big Three U.S. automakers, side by side, to determine which of the three actually poses the best value-based argument right now. Does that mean that you should think about taking a position in the winner right now? That is for you to decide.



    Earnings/Sales Growth

    • Ford: Over the last twelve months, earnings decreased by almost 52% while sales were mostly flat, declining by only about 2%. The company operates with a narrow margin profile that saw Net Income at 4.2% of Revenues over the last twelve months, and decreased to only about 2.7% in the last quarter.
    • GM: The twelve-month pattern for GM shows earnings decreasing only a little over 4%, and sales mostly flat, declining about .6%. GM’s margin profile over the last twelve months showed Net Income was a negative 3.2%, but improved in the last quarter to positive 6.5%.
    • Fiat Chrysler: Earnings over the last twelve months declined 2.63% for FCAU versus sales growth of 12.62%. The company’s margin profile showed Net Income as 3.1% of Revenues in the last twelve months, and declining to 2.5% for the most recent quarter.

    Winner: FCAU, on the basis of superior earnings and sales results in the last year versus F or GM.

    Free Cash Flow

    • Ford: F’s free cash flow is quite healthy, at more than $9.1 billion over the last twelve months. That translates to a Free Cash Flow Yield of 23.5%, which is extremely attractive.
    • GM: GM has operated with negative Free Cash Flow since the last quarter of 2016, and as of the last quarter this number was a little more than -$12.3 billion dollars.
    • Fiat Chrysler: FCAU’s Free Cash Flow over the last twelve months is healthy at a little more than $4.9 billion. That translates to a Free Cash Flow Yield of 13.8%

    Winner: F, with the highest total dollar amount in Free Cash Flow over the twelve months along with the most attractive Free Cash Flow Yield.



    Debt to Equity

    • Ford: F has a debt/equity ratio of 2.8. High debt/equity ratios aren’t unusual for automotive stocks, however it should be noted that F’s debt/equity is the highest among the Big Three auto companies. The company’s balance sheet demonstrates their operating profits are sufficient to service their debt, with healthy liquidity to make up any potential difference if that changes.
    • GM: GM’s debt/equity ratio is 1.81, which is also pretty high, but below that for F. The difference, however is that while GM’s operating profits should be adequate to service their debt, they may not have enough liquidity to make up any potential operating shortfall.
    • Fiat Chrysler: FCAU’s debt/equity ratio is the lowest of the group, at .46. That alone puts them well ahead of the other two in this category; but it is also worth noting that the company’s cash and liquid assets are more than 34% higher than their long-term debt. That gives them the best actual financial base to operate from out of any of the Big Three.

    Winner: FCAU. Not even close.

    Dividend

    • Ford: F pays an annual dividend of $.60 per share, which translates to a very impressive yield of more than 6% per year.
    • GM: GM’s dividend is $1.52 per year, translating to an annual yield of 4.51%
    • Fiat Chrysler: FCAU does not pay a dividend.

    Winner: F. Dividends are the low-hanging fruit that every value-oriented investor should look out for.



    Value Analysis

    • Ford: F’s Price/Book value is $9.18 per share and translates to a Price/Book ratio of 1.07 at the stock’s current price. Their historical average Price/Book ratio is 2.12, which suggests the stock is trading right now at a discount of more than 97%. The stock is also trading about 60% below its historical Price/Cash Flow ratio.
    • GM: GM’s Price/Book value is $27.38 and translates to a Price/Book ratio of 1.23 at the stock’s current price. Their historical average Price/Book ratio is 1.9, which suggests the stock is trading right now at a discount of 54%. The stock is also trading more than 129% below its historical Price/Cash Flow ratio.
    • Fiat Chrysler: FCAU’s Price/Book value is $13.87 and translates to a Price/Book ratio of 1.29 at the stock’s current price. Their historical Price/Book ratio is 1.32, suggesting the stock is trading at a discount of 2.3%. The stock is also trading 55% above its historical average Price/Cash Flow ratio, suggesting the stock remains significantly overvalued, even at its current price.

    Winner: F, edging out GM for best overall value proposition, but not by a wide margin.

    The net winner? While FCAU has the best overall fundamental profile, it offers the least upside potential, with a significant level of downside risk. That puts F squarely in the winner’s circle for the best overall opportunity among the Big Three automakers under current market conditions. On the other hand, the greatest overall risk remains with GM, who despite the upside offered by its value measurements, has some big fundamental question marks that make the value proposition hard to justify.


  • 24 Sep
    Ford Motor Company (F) has an interesting value argument; is it worth the risk?

    Ford Motor Company (F) has an interesting value argument; is it worth the risk?

    Nothing has kept the market more on edge this year than trade tensions and the threat of a trade war between the U.S. and its trade partners. Things only seem to get more intense this week, as the Trump administration is set to impose new 10% tariffs on $200 billion of Chinese goods on Monday. More →

  • 06 Sep
    U.S. – Canada trade fears have created a great value opportunity for this Detroit supplier

    U.S. – Canada trade fears have created a great value opportunity for this Detroit supplier

    Last week the Trump administration announced it had made a deal with Mexico to rework the two countries’ two-and-a-half decades long trade agreement. There is a third party in that agreement, of course, since NAFTA originally included the U.S., Mexico and Canada. The move has clearly put more pressure on the Canadian government to compromise, although to this point it doesn’t appear much more progress on that front has been made.

    Tensions between the U.S. and Canada have revolved primarily around tariffs on autos, although other goods have been involved as well. Concern around trade issues between the two countries have weighed on Canadian stocks that rely heavily on partnerships with U.S. business. Magna International (MGA) is a good example; since late May, when the stock hit an all-time high at around $67.50, the stock has lost about 25% of its value. Trade issues between the U.S. and Canada aren’t over, and that means that momentum for stocks like MGA could continue to be mostly bearish; at the very least, investors who are interested in this stock should expect to see plenty of volatility in the weeks and months ahead as the market decides what direction the stock should follow.



    Over the last month alone, the stock has dropped about 10%, after the company missed estimates in its latest earnings report. That pushed the stock into an even more decidedly bearish near-term profile, as the stock crossed below its 200-day moving average line. This moving average acts as an important visual indicator of a stock’s long-term trend for most technicians, and so a move below that line is usually taken as a clear sign the stock’s current trend is going to keep moving down. Over the last couple of weeks, however, the stock has shown some interesting resilience, finding support around $52 per share. Despite the market’s reaction to their latest report, the truth is that the earnings picture is actually pretty good for MGA, and the overall fundamentals for this company remain quite good. 

    The company’s earnings report did include tariffs as a risk element in the third and fourth quarters of the year, and that is probably another big reason the stock has continued to drop. I think it’s worth pointing out, however that the U.S. – Mexico announcement took the market by surprise and wasn’t expected; to me that means that for all the posturing that has gone on (and continues) between the countries involved, it’s really all about what happens behind closed doors. I think Canada it’s ultimately going to be in the best interest of both the U.S. and Canada to bring all three American trading partners back together again, and so most of the bearish sentiment around stocks like MGA is really just creating good opportunities to pick up some great companies at very nice valuation levels.



    Fundamental and Value Profile

    Magna International Inc. (Magna) is a global automotive supplier. The Company’s segments are North America, Europe, Asia, Rest of World, and Corporate and Other. The Company’s product capabilities include producing body, chassis, exterior, seating, powertrain, electronic, active driver assistance, vision, closure, and roof systems and modules, as well as vehicle engineering and contract manufacturing. The Company has over 320 manufacturing operations and approximately 100 product development, engineering and sales centers in over 30 countries. It provides a range of body, chassis and engineering solutions to its original equipment manufacturer (OEM) customers. It has capabilities in powertrain design, development, testing and manufacturing. It offers bumper fascia systems, exterior trim and modular systems. It offers exterior and interior mirror systems. It offers sealing, trim, engineered glass and module systems. It offers softtops, retractable hardtops, modular tops and hardtops. MGA has a current market cap of about $18.2 billion.

    • Earnings and Sales Growth: Over the last twelve months, earnings grew almost 13%, while Revenues grew a little over 6%. Growing earnings faster than sales is hard to do, and generally isn’t sustainable in the long term; however it is also a positive mark of management’s ability to maximize a company’s business operations. In the last quarter, the picture turned negative, with earnings decreasing a little over 9% and sales declining almost 5%. That could be a first, early indication of impact from tariffs on costs, both for MGA as well as for its customers.
    • Free Cash Flow: MGA’s free cash flow is healthy, at a little more than $1.9 billion. This number has been somewhat cyclic from one quarter to the next, but has shown a general, upward stair-step pattern of growth going back to the last quarter of 2016.
    • Dividend: MGA pays an annual dividend of $1.32 per share, which translate to an annual yield of 2.48% at the stock’s current price. 
    • Return on Equity/Return on Assets: These numbers are very strong. ROE is 19.72 and ROA is 8.94.
    • Price/Book Ratio: there are a lot of ways to measure how much a stock should be worth; but one of the simplest methods that I like uses the stock’s Book Value, which for MGA is $33.97 and translates to a Price/Book ratio of 1.56 at the stock’s current price. The stock’s historical average Price/Book ratio is 1.94, suggesting the stock is nicely undervalued by about 24%; at par with its average, the stock should be trading at about $66 per share. Working with $66 as a long-term target is even more justified by looking at the stock Price/Cash Flow ratio, which is currently 30% below its historical average. That would put the stock in range to test its all-time highs and in position to start making new ones.



    Technical Profile

    Here’s a look at the stock’s latest technical chart.

     

    • Current Price Action/Trends and Pivots: After following a nice upward trend until May, the stock peaked at around $67.50 before dropping back its current level. The gap you see in early August came in conjunction with the company’s last earnings report, and in fact that gap is providing resistance right now against any further movement upward for the stock. I already alluded to its 200-day moving average (not shown); the stock is about $5 per share below that line, and would need to break above it to stage any kind of new upward trend. A drop below $52 per share would mark a break below the stock’s long-term support level and could provide bearish momentum for a continued decline to as low as $45 in fairly short order.
    • Near-term Keys: The stock’s most current resistance is at around $56, from a pivot high just about a week ago; if the stock can break that level, there could be a good short-term opportunity to buy the stock or work with call options. If you like the stock’s value potential right now, and don’t mind dealing with what I think will be quite a bit of volatility for the time being, this could be a great time to go ahead and take a position with a long-term time frame in mind. If you prefer to work with the bearish side of the market right now, wait to see if the stock drops below $52; if it does, consider shorting the stock or working with put options.


  • 29 Aug
    In wake of U.S.-Mexico agreement, OSK could be an interesting Industrial play

    In wake of U.S.-Mexico agreement, OSK could be an interesting Industrial play

    The big news this week has really been all about the announcement from President Trump that the U.S. and Mexico have agreed to enter a new trade deal that will effectively replace the longstanding NAFTA agreement between the two countries and Canada. The specifics of the deal still remain to be seen, since in many respects they haven’t been finalized; but so far it appears to focus heavily on the auto industry, expanding the criteria for how much of an automobile must be produced in North America to qualify for tariff protection, increasing the requirement for sourcing aluminum and steel from local producers, and specifying a minimum wage of $16 per hour for workers.

    Of course, Mexico is just one of several countries the Trump administration has been targeting for changes in trade policy and agreements; but the market seems to hope that they are just the first domino to fall and ease tensions between the U.S. and its largest trade partners, including Canada, the European Union and, perhaps most significantly, China. Steel and aluminum tariffs, which were the first to be imposed this year, now appear to be in position to also be the first to ease – a development that bodes well for the prospects not only of the auto industry but also of related industries, including heavy machinery.



    One of the challenges lately for investors interested in some of the largest players in the Heavy Machinery segment is that most of the most well-known companies, like Caterpillar (CAT) and Deere & Company (DE), are already pretty expensive, running at prices well above $100 per share. Oshkosh Corporation (OSK) is a somewhat smaller player in the industry, being categorized as a mid-cap stock versus the large-cap status of its larger brethren, and it has the added bonus of being available at a lower stock price; but don’t let its smaller size fool you. This is a company that recently celebrated 100 years in business, and offers a range of vehicles that cover construction, waste management, field service and access, military and emergency response and service vehicles. Like most Heavy Machinery stocks, OSK has dropped for most of the year and is currently down about 29% since hitting an all-time high at about $100; but with a strong fundamental profile and a promising value proposition, this looks like a stock that could present a good long-term opportunity.

    Fundamental and Value Profile

    Oshkosh Corporation (OSK) is a designer, manufacturer and marketer of a range of specialty vehicles and vehicle bodies, including access equipment, defense trucks and trailers, fire and emergency vehicles, concrete mixers and refuse collection vehicles. The Company’s segments include Access Equipment; Defense; Fire & Emergency, and Commercial. The Access Equipment segment consists of the operations of JLG Industries, Inc. (JLG) and JerrDan Corporation (JerrDan). The Defense segment consists of the operations of Oshkosh Defense, LLC (Oshkosh Defense). The Fire & Emergency segment consists of the operations of Pierce Manufacturing Inc. (Pierce), Oshkosh Airport Products, LLC (Airport Products) and Kewaunee Fabrications LLC (Kewaunee). The Commercial segment includes the operations of Concrete Equipment Company, Inc. (CON-E-CO), London Machinery Inc. (London), Iowa Mold Tooling Co., Inc. (IMT) and Oshkosh Commercial Products, LLC (Oshkosh Commercial). OSK has a current market cap of about $5.2 billion.

    • Earnings and Sales Growth: Over the last twelve months, earnings grew by about 19.5%, while revenue increased almost 7%. Growing earnings faster than sales is difficult to do, and is generally not sustainable in the long-term; but it is also a positive mark of management’s ability to maximize its business operations effectively. The company operates with a narrow operating margin; over the last twelve months, Net Income was about 5.5% of Revenues. This number increased in the last quarter to a little above 7%.
    • Free Cash Flow: OSK’s free cash flow is healthy, at more than $253 million. This number has increased steadily since early 2017, from below zero.
    • Dividend: OSK’s annual divided is $.96 per share, which translates to a very impressive yield of 1.34% at the stock’s current price.
    • Price/Book Ratio: there are a lot of ways to measure how much a stock should be worth; but one of the simplest methods that I like uses the stock’s Book Value, which for T is $33.11 and translates to a Price/Book ratio of 2.15 at the stock’s current price. The stock’s historical average Price/Book ratio is 2.14, meaning that the stock is practically at par with its Book Value. That doesn’t sound like there is much room to grow; but another measurement that I like to use to complement my analysis is the stock’s Price/Cash Flow ratio; in the case of OSK, the stock is trading more than 82% below its historical Price/Cash Flow ratio. While a target price at nearly $130 is probably not realistic – the stock only hit $100 for the first time in January of this year – it does imply that there is good reason to suggest the stock’s January highs are well within reach.



    Technical Profile

    Here’s a look at the stock’s latest technical chart.

     

    • Current Price Action/Trends and Pivots: The red diagonal line measures the length of the stock’s upward trend until the beginning of this year; it also informs the Fibonacci trend retracement lines shown on the right side of the chart. It’s easy to see the downward trend the stock has followed for most of this year; however it is also interesting to note that since late June, the stock has shown some resilience, with support in the $69 range and short-term resistance at around $75 per share. The stock would need to push above this range to begin forming a new upward trend, while a drop below $69 could see the stock drop to as low as the $56 level as shown by the 88.6% Fibonacci retracement line.
    • Near-term Keys: The stock would need to break above $75 to give a good bullish signal that you could act on, either for a short-term, momentum-based trade with call options, or to buy the stock outright with a plan to hold for a longer period of time. A drop below $69 could be an opportunity to work the bearish side by shorting the stock or by buying put options.


  • 03 Aug
    Why CAT’s 20% drop could be a value trap

    Why CAT’s 20% drop could be a value trap

    When you put a big part of your investing focus on bargains, emphasizing value-based fundamental analysis to determine whether a stock is worth your time and money, you inevitably end up filtering through a lot of different stocks, but cast most aside. I think that is useful, because being more selective helps you narrow the universe of stocks you’re paying attention to at any given time. The problem, however is that sometimes the metrics a value investor learns to rely on can give you a false sense of whether a stock really fits a good description of a good value. That can lead you to make an investment in a stock that might be down from a recent high because it looks like it’s available now at an attractive price compared to where it was; but in reality it’s a bit like trying to catch a falling knife – the only real way to avoid getting cut is to get out of the way and let the knife fall to the floor. These kinds of situations are also called value traps, because they provide numbers that lure less careful investors in and motivate them to make an investment at some of the most dangerous times possible.

    I think Caterpillar Inc. (CAT) is actually one of those traps right now. My opinion differs from most other analysts and “experts” out there, who point to the company’s solid earnings growth over the last year, and the stock’s decline in price since January of this year of more than 20% as reasons that investors should be treating the stock as a great value opportunity right now. They’ll also point to a popular valuation metric, a stock’s P/E ratio, as a clear indication that the stock is undervalued and something you should be paying attention to right now. I’ll admit that at first blush, I thought the stock might be a good opportunity, too; but the more I drilled down to really look at some of the other data points that are important to me, the more concerned I got.



    Another risk element that investors seem to be trying to shrug aside right now when it comes to stocks like CAT is the fact that while the U.S. seems to have found some sense of resolution – or at least a path to it – in trade with the European Union, the same can’t be said of discussions with China. Today, on top of existing tariffs that already amount to more than $34 billion against its single largest trading partner, President Trump proposed another $200 billion in new tariffs, prompting what seems like the customary Chinese response to retaliate in kind. The market’s reaction was pretty ho-hum; could it mean the investors are beginning to accept trade tension as a normal state of affairs? If they are, then I think it means they are becoming desensitized to that risk, and that is a troubling indication all by itself.

    Multinational stocks, and especially those with major operations in China, remain at risk if trade tensions continue as they are, or escalate even further. And let’s not forget that while the E.U. have, for now at least, agreed to hold off on further tariffs against each other and work toward compromise, it doesn’t mean that situation has been resolved. CAT is one of the companies that I think could be the most dramatically affected. That affect may not be showing up in earnings reports or sales numbers yet; but the risk that it will increases more and more with every week, month, and quarter that continues with trade affairs as they are. To my way of thinking, that puts something of a jaundiced eye on any currently glowing numbers. Just about every analyst report I’ve been able to find on CAT forecasts stable to growing revenues along with continued earnings growth for the foreseeable future, and under most circumstances I think that should be a good thing; but the thing that is setting off warning bells for me is that none of the reports I have found discuss trade or tariffs as risk factors.



    Fundamental and Value Profile

    Caterpillar Inc. (CAT) is a manufacturer of construction and mining equipment, diesel and natural gas engines, industrial gas turbines and diesel-electric locomotives. The Company operates through segments, including Construction Industries, which is engaged in supporting customers using machinery in infrastructure, forestry and building construction; Resource Industries, which is engaged in supporting customers using machinery in mining, quarry, waste and material handling applications; Energy & Transportation, which supports customers in oil and gas, power generation, marine, rail and industrial applications, including Cat machines; Financial Products segment, which provides financing and related services, and All Other operating segments, which includes activities, such as product management and development, and manufacturing of filters and fluids, undercarriage, tires and rims, ground engaging tools, fluid transfer products, and sealing and connecting components for Cat products. CAT has a market cap of $82.5 billion.

    • Earnings and Sales Growth: Over the last twelve months, earnings grew by almost 100%, while sales growth was almost 24%. Growing earnings faster than sales is hard to do, and generally not sustainable in the long-term; however it is also a positive mark of management’s ability to maximize their business operations. Net Income as a percentage of Revenues also improved from about 6% for the trailing twelve months to more than 12% in the most recent quarter.
    • Free Cash Flow: CAT’s free cash flow over the last twelve months is more than $3.7 billion. Cash and liquid assets are also more than $7.8 billion, which does give the company quite a bit of financial flexibility; however these numbers are offset in my analysis by the stock’s very high debt to equity ratio
    • Debt to Equity: CAT has a debt-to-equity ratio of 1.59. Their long-term is more than $23.5 billion and marks CAT as one of the most highly leveraged companies in the Heavy Machinery industry.
    • Dividend: CAT currently pays an annual dividend of $3.44 per share, which translates to an annual yield of 2.49% at the stock’s current price.
    • Price/Book Ratio: there are a lot of ways to measure how much a stock should be worth; but one of the simplest methods that I like uses the stock’s Book Value, which for CAT is $24.99 per share. At the stock’s current price, that puts the Price/Book ratio at 5.52, versus a historical average of 3.62. The historical average puts the stock’s “fair value” a little above $90 per share – more than 34% below the stock’s current price. Some analysts like to point out that the stock is trading about 32% below its historical Price/Earnings ratio as an indication the stock is undervalued, but I view Book Value, and the Price/Book ratio as a better measurement and more indicative of a company’s intrinsic value.



    Technical Profile

    Here’s a look at the stock’s latest technical chart.

     

    • Current Price Action/Trends and Pivots: The diagonal red line traces the stock’s upward trend until January of this year and provides the reference for calculating the Fibonacci retracement levels indicated by the horizontal red lines on the right side of the chart. The stock’s decline from late January’s high at around $173 puts the stock in a clear, intermediate-term downward trend, with the stock trading near to the lowest point of that trend around $135 per share. The stock is hovering around a major support point, marked by the 61.8% Fibonacci retracement line, and if that line holds, it could give the stock some momentum to start pushing higher to reclaim its highs from earlier in the year. On the other hand, a drop below $135 would mark a clear break through support that would give the stock room to drop as far as the 88.6% retracement line around $120 in fairly short order. That’s more than $15 of near-term risk if support is broken, and about $18 of legitimate risk right now. Even if the stock does rally from that support point, it should find major resistance in the $150 range, where the 38.2% retracement line sits, meaning that a bullish investor stands to make about $12 per share if he’s right; but he could lose $18 per share if he’s wrong. That’s easy math that should make anybody hesitate.
    • Near-term Keys: If you’re looking for a good reward: risk trade opportunity for CAT, watch to see if the stock pushes below support around $135. If it does, there could be a very good opportunity to short the stock or use put options, with a target price around $120, and a stop loss a little above $136 per share. That’s a set up that offers $15 of reward, against only a couple of dollars per share of risk.


  • 27 Jul
    International Paper offers a BIG value right now

    International Paper offers a BIG value right now

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    No matter what current market conditions are, one of the biggest challenges for an investor is finding stocks that fit their investment preferences at any given time. The market ebbs and flows from high to low extremes, and those shifting conditions mean that investing strategies designed to work in one type of environment will offer up fewer choices and opportunities in another. Value investing is a great example; when the market has been declining for an extended period of time, or even in the early stages of recovery, finding undervalued stocks isn’t that hard to do. The longer a bull market lasts, however, the harder that becomes, as more and more stocks are found at or near historical highs, and at inflated prices relative to the stock’s underlying fundamentals.

    As a value-oriented investor, I’ve learned that just because there may be fewer bargains available in the late stages of a bull market (and let’s face it, we absolutely are in the very late stages of this latest bull market), it doesn’t mean that I have to change my philosophy. It does mean that I become a more cautious and deliberate buyer, and my core fundamental and value criteria become even more important, because they help me maintain my discipline and avoid jumping on the market’s bullish bandwagon at the dangerous, “irrational exuberance” stage. I’m not sure we are at that point yet, but we also aren’t very far off from it, and so my conservative approach continues to help me sleep well at night.



    International Paper (IP) is a stock that has seen an impressive increase in price since the current bull market started in early 2009 was only around $4 per share, and as of now it is trading a little above $52 per share. At first blush, that might make the stock sound more like it should be overvalued. The company has a strong fundamental profile, however, and the growth of its business over the same period lends to strong argument for the stock’s higher price. Not only that, over the course of the calendar year the stock is actually down more than 20% from its all-time high. I think there is a very strong argument to be made that at its current levels, IP looks like a pretty attractive value play right now.

    The question of trade is something that practically every business with an international profile has to grapple with, as questions about tariffs continue to linger. IP released its latest quarterly report yesterday, and the CEO indicated that to this point, the company hasn’t seen any direct impacts from tariffs. Instead, IP is a company whose risk exposure to trade tensions is mostly secondary. The simplest example, which the CEO cited, was packaged food. If IP’s customers are hit with higher costs from tariffs and uncertainty from an extended trade war, they will need less packaging products, which would then impact IP’s operations. An example that counters this logic applies to China, who the CEO pointed out doesn’t make its own fiber-based products like pulp and paper, which means they have to purchase ti elsewhere. Tariffs won’t be likely to change that reality, which means that area of business should continue to perform well.



    Fundamental and Value Profile

    International Paper Company is a paper and packaging company with primary markets and manufacturing operations in North America, Europe, Latin America, Russia, Asia, Africa and the Middle East. The Company’s segments include Industrial Packaging, Global Cellulose Fibers, Printing Papers and Consumer Packaging. The Company is a manufacturer of containerboard in the United States. Its products include linerboard, medium, whitetop, recycled linerboard, recycled medium and saturating kraft. The Company’s cellulose fibers product portfolio includes fluff, market and specialty pulps. The Company is a producer of printing and writing papers. The products in Printing Papers segment include uncoated papers. The Company is a producer of solid bleached sulfate board. As of December 31, 2016, the Company operated 29 pulp, paper and packaging mills, 170 converting and packaging plants, 16 recycling plants and three bag facilities in the United States. IP’s current market cap is $21.5 billion.

    • Earnings and Sales Growth: Over the last twelve months, earnings  grew almost 57% while revenue growth was modest, increasing only 2%. Growing earnings faster than sales is difficult to do, and generally isn’t sustainable in the long-term; but it is also a positive mark of management’s ability to maximize business operations. The company’s Net Income for the last twelve month was almost 13% of Revenues, with this number decreasing to about 7% in the most recent quarter. 
    • Free Cash Flow: IP’s free cash flow is healthy, at $361 million. This is a significant increase from the last quarter, when free cash flow was a more modest $175 million.
    • Debt to Equity: IP has a debt/equity ratio of 1.48, implying they are fairly highly leveraged. This is pretty normal for the Containers & Packaging industry. The company’s balance sheet indicates their operating profit are more than adequate to service their debt, with cash and liquid assets of more than $1.1 billion to provide additional flexibility.
    • Dividend: IP pays an annual dividend of $1.90 per share, which translates to a yield of about 3.64% at the stock’s current price.
    • Price/Book Ratio: there are a lot of ways to measure how much a stock should be worth; but one of the simplest methods that I like uses the stock’s Book Value, which for IP is $16.58 and translates to a Price/Book ratio of 3.17 at the stock’s current price. Their historical average Price/Book ratio is 4, which provides a strong basis for the stock’s long-term upside. A move to par with the average would put the stock above $66 per share, more than 27% higher than the stock’s current price and very near to its 52-week (and all-time) high around $67.



    Technical Profile

    Here’s a look at the stock’s latest technical chart.

    • Current Price Action/Trends and Pivots: The diagonal red line traces the stock’s upward trend from October of 2016 to late January of this year, and provides the reference for calculating the Fibonacci retracement levels indicated by the horizontal red lines on the right side of the chart. The stock has significantly retraced that upward trend, and has used the $51 level as strong support since late March. More recently, the stock’s trading range has narrowed, with resistance around $53 and support in the same $51 price area. Its current range also sits inline with the 61.8% retracement line, reinforcing the strength of the support the stock has seen over the last few months.
    • Near-term Keys: If you don’t mind working with a little volatility over time, and can tolerate a potential swing lower, the value proposition for the stock offers a great long-term opportunity with a very attractive dividend yield to draw from right now. If you prefer to work with shorter trading periods and strategies like swing or momentum trading, look for a push above $53 before taking a long position in the stock or working with call options. A drop below the stock’s current support around $51 could mark an interesting signal to short the stock or work with put options, since the stock isn’t likely in that case to find new, significant support before reaching the $46 level shown by the 88.6% retracement line.


  • 25 Jul
    TTC is down 18% for the year, and consolidating. Is it a great buy?

    TTC is down 18% for the year, and consolidating. Is it a great buy?

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    One of the biggest challenges all investors face is finding stocks to invest in. It isn’t just about picking a stock out of the thousands that are available, but also trying to figure out when the time is right to make the investment. Momentum and trend traders like to try to time the swings from high to low extremes within price trends to place short-term trades, while investors with a longer time period in mind usually look at the fundamental strength of the underlying business. Value-oriented investing, which is the approach I prefer and write about, incorporates aspects aspects of both trend and fundamental analysis to determine if a stock’s current price is lower than it should be. It doesn’t mean the stock is guaranteed to go up, of course, but it does provide a pretty good way to build a case for whether a stock is worth the bother right now, later, or even at all.

    The Toro Company (TTC) is an interesting case study. This is a mid-cap Machinery company with an easily recognizable brand; if you mow your lawn, enjoy gardening or landscaping, or have to deal with snow in the winter, there’s a good chance you are familiar with their products. TTC competes with other companies in the Machinery space like Deere & Co. (DE) and Briggs & Stratton (BGG), to name just a couple. Their business has a definite element of seasonality associated with it; in their most recent quarterly earnings report, for example, the company cited a more-temperate-than-expected winter, in many parts of the country along with a delayed start to spring as factors that impacted revenues and earnings in the quarter. Even so, the company also has a diverse product portfolio that makes them an interesting player. The stock’s price is also down for the last twelve months, having hit a high price at around $73 in August of last year before dropping quickly to a range somewhere between $56 on the low side and around $62 on the high end. The stock is roughly the middle of that range right now and has been holding this sideways pattern for the past few months. 

    The stock’s current, and somewhat extended, sideways pattern marks a consolidation of price that usually gets technical traders to start paying a little more attention, since stocks inevitably find a reason to break out of consolidation ranges to establish new trends. When the stock is trading significantly below its historical levels, technical traders usually look at a consolidation pattern as a bullish indication and will start looking for a strong upside breakout signal to place a trade. As a value investor, consolidation makes me check a stock’s fundamentals to determine if there is a strong argument that the stock should move higher over either an intermediate or long-term perspective, and if the value proposition isn’t compelling enough right now, what is the price at which I think the stock is a good buy.



    Fundamental and Value Profile

    The Toro Company (Toro) is engaged in the designing, manufacturing, and marketing of professional turf maintenance equipment and services, turf irrigation systems, landscaping equipment and lighting products, snow and ice management products, agricultural micro-irrigation systems, rental and specialty construction equipment, and residential yard and snow thrower products. The Company operates through three segments: Professional, Residential and Distribution. Under the Professional segment, Toro designs professional turf, landscape and lighting, rental and specialty construction, snow and ice management, and agricultural products. The Residential segment provides products, such as riding products, home solutions products and snow thrower products. It manufactures and markets various walk power mower models. The Distribution segment consists of Company-owned domestic distributorship. Its brands include Toro, Exmark, BOSS, Irritrol, Hayter, Pope, Unique Lighting Systems and Lawn-Boy. TTC’s current market cap is $6.3 billion.

    • Earnings and Sales Growth: Over the last twelve months, earnings  grew more than 11% while revenue growth was mostly flat, posting an increase of .29%. TTC operates with a narrow margin profile of about 1%. The results are more encouraging over the last quarter, where earnings grew 150% and revenues improved almost 60%. In addition, the company’s Net Income was about 10% over the past year, but improved to almost 15% in the last quarter.
    • Free Cash Flow: TTC’s free cash flow is healthy, at a little more than $257 million. This is a number that has declined over the past year from a little above $340 million.
    • Debt to Equity: TTC has a debt/equity ratio of .48. Their balance sheet shows about $206 million in cash and liquid assets versus about $300 million in long-term debt, which a pretty good indication that the company works with a conservative debt management philosophy. Given their healthy operating margins, they should have no problem servicing their debt.
    • Dividend: TTC pays an annual dividend of $.80 per share, which translates to a yield of about 1.33% at the stock’s current price.
    • Price/Book Ratio: there are a lot of ways to measure how much a stock should be worth; but one of the simplest methods that I like uses the stock’s Book Value, which for TTC is $5.81 and translates to a Price/Book ratio of 10.29 at the stock’s current price. Their historical average Price/Book ratio is 9.96, which provides a pretty strong argument for the fact that while the stock isn’t overvalued, it also isn’t a great value right now. I’m also not confident that under current conditions, with some early signs that steel and aluminum tariffs are starting to squeeze margins for industrial stocks, that the market is likely to start rotating into these stocks in the near future. A more compelling value argument in my mind would be made with the stock in the $45 to $46 range – which is a level the stock hasn’t seen since late 2016.



    Technical Profile

    Here’s a look at the stock’s latest technical chart.

     

    • Current Price Action/Trends and Pivots: The red diagonal line measures the length of the stock’s long-term downward trend, and also informs the Fibonacci trend retracement lines shown on the right side of the chart. As I observed earlier, the stock is currently hovering in a range between about $56 (range support) and $62 (range resistance). That range has been pretty persistent since April of this year. In order to reverse its long-term downward trend, the stock would need to break out of that range and move above the $63 area marked by the 38.2% retracement line. A break below $56 would reconfirm the long-term trend’s strength and could see the stock drop down into the $46 to $49 range.
    • Near-term Keys: If you’re looking for a way to take advantage of the bullish side of the market with TTC, look for a strong move above $63 before buying the stock or working with call options. If the stock does break below $56, that could be a good signal to short the stock or to consider buying put options. If you’re a value-oriented investor like me, a break below $56 could be a good reason to start paying closer attention, with stabilization below $50 an area where the stock’s value proposition could become very attractive.


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