Getting defensive: how GIS might be a calm center amidst the market’s storm

October 31, 2018

Getting defensive: how GIS might be a calm center amidst the market’s storm

There’s nothing quite like a volatile stock market to start rattling nerves and make people wonder how long it’s going to last, or if the market will ever be the same again. After coming within a whisper of official bear market territory on Monday, stocks rebounded strongly, as all three major market indices rallied more than 1.5%, driven in part by good earnings report from the tech sector and comments from President Trump – take them for whatever you think they may be worth – that although his administration remains poised to impose tariffs on all remaining imports from China if the two sides can’t come to some kind of compromise next month when Trump and Chinese president Xi Jinping meet next month, he still thinks a “great deal” will come with America’s largest trading partner.

Don’t take Tuesday’s rally too seriously – I generally don’t buy into the idea that a single trading day, positive or negative, is a harbinger of much value to future price movements. And the truth is that a single positive day, amidst a flurry of downward momentum and broad-based selling is usually not much more useful than trying to plug a rapidly expanding hole in a dam with nothing but your finger. So what are you supposed to do if you think the market could be in for a rough stretch for the foreseeable future?

One thing a lot of investors start to do when stocks get more volatile is that they start looking for less volatile, “safer” instruments like bonds. They’ll actively accept the lesser rate of return in exchange for the peace of mind that comes from the idea that while stocks keep dropping, their money will remain stable and have at least a modest level of interest coming in. Other investors, who are admittedly less risk averse than the conservative set I just described, might try to find a reasonable middle ground between the two extremes. Even when the economy has gone through extended periods of contraction, forcing the stock market to plunge from historical highs and test historical lows, there are pockets of the economy and the stock market that tend to hold up better than most.



The stocks I’m talking about are usually in industries that have a consistent demand that isn’t sensitive to economic cycles to the same extent that most other sectors. Utilities and healthcare are two sectors that a lot of investors gravitate to immediately, and I’ve already heard a few talking heads starting to beat on those two particular drums. Another one that I personally like to pay attention to is Food. It makes sense – the economy can struggle, and prices can drop, but people are still going to need to heat their homes in the winter and keep them cool in the summer; they’ll still need to see their family doctor and fill prescriptions, and they are still going to need to keep their kitchens stocked. That doesn’t necessary mean they are immune from risk, or that their stocks won’t go down; but these are often stocks whose prices will be more stable than stocks in other industries, and in some cases you may even see them increase in price while the broad market keeps dropping.

General Mills, Inc (GIS) is a well-known food company that practically every American is familiar with. Over the last year or so the market has beaten this stock up quite a bit; since the beginning of this year the stock has dropped from around $60 per share to its current price at around $45. That’s a decline of 25% year-to-date that is even worse if you look back two and a half years, when the stock peaked in July of 2016 at around $72 per share. One of the criticisms a lot of naysayers have had is that the company is old, out-of-date and out of touch with a new generation of consumers. And yet, the company has a solid fundamental picture, with a healthy margin profile, manageable debt, and an annual dividend that is better than the yield offered by a 30-year Treasury bond. Is it immune from price risk? No; but consider that while the S&P 500 has declined by more than 8% in the last 30 days, GIS has actually increased in value by a little over 5%. It is true that is a small sample size, but I think it is a good example of why stocks like GIS can be offer interesting, alternative ways to keep your money working for you when the rest of the stock market is suffering.



Fundamental and Value Profile

General Mills, Inc., is a manufacturer and marketer of branded consumer foods and pet food products sold through retail stores. The Company is a supplier of branded and unbranded consumer food products to the North American foodservice and commercial baking industries. It also provides pet food products through its subsidiary Blue Buffalo Pet Products Inc. The Company has four segments: U.S. Retail, International, Pet operating, and Convenience Stores and Foodservice. The Company offers a range of food products with a focus on categories, including ready-to-eat cereal; convenient meals, including meal kits, ethnic meals, pizza, soup, side dish mixes, frozen breakfast and frozen entrees; snacks, including grain, nutrition bars and frozen hot snacks; yogurt, and super-premium ice cream. The Company’s other product categories include baking mixes and ingredients, and refrigerated and frozen dough. It also provides food products for dogs and cats. GIS’s current market cap is $27.1 billion.

  • Earnings and Sales Growth: Over the last twelve months, earnings were flat, while revenue growth was about 8.6%. In the last quarter, earnings decreased a little over 10%, while sales increased about 5%. That isn’t a positive pattern, to be sure, but it also isn’t particularly unusual for a lot of food companies at this late stage of economic expansion, when commodity prices are translating to increased materials costs, and concerns about the impact of global tariffs are starting to have their say. Offsetting this picture is the company’s margin profile, which is quite healthy. Over the last twelve months, Net Income was 13.2% of Revenues. Over the last quarter that number narrowed to 9.5%, but remains pretty healthy and provides the company with all of the operating cash flow it needs.
  • Free Cash Flow: GIS’s free cash flow is healthy, at a little over $2.2 billion. This is a number that has increased significantly over the last year from about $1.6 billion.
  • Debt to Equity: GIS has a debt/equity ratio of 1.93. This is a high number that makes GIS one of the most leverage companies in the industry; however their balance sheet indicates that operating profits are sufficient to service their debt.
  • Dividend: GIS pays an annual dividend of $1.96 per share, which translates to an impressive yield of about 4.3% 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 GIS is $11.03 and translates to a Price/Book ratio of 4.15 at the stock’s current price. Their historical average Price/Book ratio is 6.82, and provides a long term, top-end target price above $75 per share – a little above the stock’s July 2016 high.



Technical Profile

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

 

  • Current Price Action/Trends and Pivots: The stock’s downward slide from the beginning of the year is easy to see; it’s also easy to see how the stock has struggled since May to sustain any really strong bullish momentum this year as the market pushed back above its all-time highs from January. Over that period, Consumer Staples stocks like GIS have generally been out of favor with investors, but if the market really is starting to turn bearish, don’t be surprised to see more and more stocks like GIS start to see new buying activity that could help them start to develop new upward trends. The stock’s 5% rally over the last month is not long or strong enough to call an upward trend yet; but if the stock pushes above the $47 level, it could rally to as high as about $53 per share.
  • Near-term Keys: Given broad market conditions right now, it’s hard to suggest a short-term bullish trade, unless the stock does break above the $47 level; that could provide a good signal for a short-term swing trade using call options or by buying the stock outright. The stock also has very strong support around $42 per share, but a drop below that support could act as a signal to short the stock or start buying put options. If you like the stock’s fundamental profile and its value argument, the stock’s current range, along with its larger-than-average dividend, offer a pretty attractive long-term investment, even if the market does continue to drop and you don’t mind holding the stock through whatever volatility it might experience in the near term.