HON is down 12% from this year’s high. Is it time to buy?

June 29, 2018

HON is down 12% from this year’s high. Is it time to buy?

Honeywell International Inc. (HON) is one of the largest industrial companies in the U.S. They’ve been around for more than a hundred years and have been a component of the S&P 500 index since 1964. This is a bellwether stock with global operations that, like most U.S. companies, has ridden the market’s long-term upward trend to post amazing highs. It hit a low point below $27 in February 2009 but from that point began a steady climb that peaked in January of this year at almost $165 per share. That’s an increase of more than 500% over that period that anybody would have been thrilled to get a piece of. Since that point, however, the stock has dropped back about 12%, which in the longer-term context probably doesn’t sound that alarming. It does, however beg the question: is the run over, or is this just another example of an opportunity to “buy the dip” and ride the next wave?

Fundamental measurements for this company are, not surprisingly, quite solid in most respects. As I’ll demonstrate below, however, I believe the stock is highly overvalued by most reasonable metrics. Being overvalued by itself doesn’t, of course mean the stock is destined to keep dropping; however when you consider that the stock is down since January, but remains overvalued does suggest there is still plenty of room to keep dropping. Add in to the mix that the company is among the companies that really stand to be negatively impacted by a trade war – they have operations all over the world, with more than 50% of their sales being generated outside the United States. The longer the U.S. and its trading partners remain at odds and choose to escalate trade tensions rather than finding a way to negotiate their way to compromises, the more the risk that companies like HON could see their stock prices continue to fall.

Fundamental and Value Profile

Honeywell International Inc. is a technology and manufacturing company. The Company operates through four segments: Aerospace, Home and Building Technologies, Performance Materials and Technologies, and Safety and Productivity Solutions. The Company’s Aerospace segment supplies products, software and services for aircraft and vehicles that it sells to original equipment manufacturers (OEMs) and other customers. The Home and Building Technologies segment provides products, software, solutions and technologies that help owners of homes stay connected and in control of their comfort, security and energy use. The Performance Materials and Technologies segment is engaged in developing and manufacturing materials, process technologies and automation solutions. The Safety and Productivity Solutions segment is engaged in providing products, software and connected solutions to customers that manage productivity, workplace safety and asset performance. HON has a current market cap of $108.4 billion.

  • Earnings and Sales Growth: Over the last twelve months, earnings and sales both increased, with earnings growing a little over 17% while sales increased about 9.5%. 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 effectively maximize the company’s business operations.
  • Free Cash Flow: HON has very healthy free cash flow of more than $5.2 billion over the last twelve months. This is a number that has climbed steadily on a yearly basis going all the way back to the last quarter of 2011.
    Debt to Equity: the company’s debt to equity ratio is .72, which is a pretty conservative number. Their balance sheet shows operating are sufficient to service their debt, with plenty of cash and liquid assets to make up any shortfall and provide additional financial flexibility.
  • Dividend: HON pays an annual dividend of $2.98 per share, which at its current price translates to a dividend yield of 2.05%.
  • 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 HON is $23.80 per share. At the stock’s current price, that translates to a Price/Book Ratio of 6.09. Ratios closer to 1 are usually preferred from a value-oriented standpoint, however higher multiples aren’t that unusual, especially in certain industries. The average for the Industrial Conglomerate industry is only 3.7, and even more importantly, the historical average for HON is 4.6. A value at par with the industry average would put the stock at around $88 per share, and at its historical average it would be $109.48. That means that from a value standpoint, the downside risk is either 25% or nearly 40%, depending on which metric you prefer to use. Either way, the stock is clearly overvalued and would be very hard to justify as any kind of value-based investment.

Technical Profile

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

  • Current Price Action/Trends and Pivots: The red, diagonal line traces the stock’s upward trend trend dating back to October of last year. It is also the basis for calculating the Fibonacci retracement lines on the right side of the chart. The stock has been holding practically on top of the 38.2% retracement line since April, and could be forming a third consecutive pivot low at that level right now. This could mark the beginning of a Triple Bottom formation, which is usually taken as a positive, bullish pattern; however the stock would have to break above the $152 level, which I’ve marked with the dashed yellow line and is which has also been acting as powerful resistance for the the past four months. A break above that level should provide bullish momentum to as far as $165, which is around the stock’s all-time highs. A break below $142, which is where the stock’s current support lies should be taken as a good indication the stock is indeed reversing its long-term upward trend.
  • Near-term Keys: If the stock breaks below $142 as just mentioned, and some of the broader market’s trade war and other global risks remain in place, I believe the stock could easily drop to as low as $128 before finding any kind of significant support. A drop to that level would also translate to a legitimate downward trend that could keep the stock dropping to somewhere between $105 to $110 per share – which would match the current minimum downside risk my earlier value analysis suggests. These could be opportunities for shorting the stock or working with put options. If the stock does recover bullish momentum and manages to break the $152 level, there could be an attractive opportunity to work with the long side by either buying the stock outright or using call options.