Skip to Content

Menu

How to Invest Around the Unicorns

October 17, 2017, 10:00 am

Buzz around streaming music service Spotify trying to walk in Alphabet’s (GOOGL) shoes by skipping the conventional IPO process has investors once again dreaming of catching other privately-held “unicorn” companies through a back door – names like Dropbox, Space-X, Airbnb and mighty Uber, which is already a $60 billion behemoth purely on private backing.

There’s still no way to get direct access to Silicon Valley’s highest-profile disruptors unless you’re a private equity partner or know the founders personally. And because these are the disruptive forces in today’s economy, it doesn’t make a lot of sense to own their publicly-traded competitors. This isn’t the kind of tide that lifts all the boats.

Instead, one option is to invest in the companies that sell these unicorns what they need and flourish in their footprint. Let’s take a look at a few.

Uber has frustrated everyday investors for years by teasing an IPO without ever following through. The platform was a black box until recently, when it has started to open up. Uber’s delivery service is a windfall for small business – represented through Shopify (SHOP) – and local florists. 1-800-Flowers (FLWS) is going to save a lot of money converting delivery staff into Uber drivers.

Moving deeper into the ecosystem, Uber is probably the best thing to happen to the car rental chains in years. Thousands of eager drivers are sidestepping the old expectation of buying their black town cars and SUVs, opting instead to rent by the hour. I don’t really see Hertz (HTZ) and Avis (CAR) as good long-term buys right now, but this movement has helped both stocks weather what would have otherwise been a nasty secular trend. Either way, the Uber app supports Pandora (P) streaming music so more cars on the road are a competitive win for that channel and not Apple (AAPL).

Airbnb is a tougher nut to crack since most of its partnerships actually feed cash back into it in the form of pay-for-play discounts and customer perks. Until we see something the rent-your-apartment company needs badly enough to push the money out instead of in, this one’s more of a reason to short conventional trip booking stocks and hotel chains hurting for business. Likewise, while the market is buzzing around Spotify right now, its deals with airlines and credit card companies point the wrong way to make those stocks a good proxy. (Yes, Uber drivers can play Spotify too, but it doesn’t help us to chase one unicorn to capture another’s success.)

Elon Musk’s “other company,” Space-X, has a $20 billion valuation and arguably even deeper pockets. It may never go public, but as its rocket platform gets more robust it takes a lot of pressure off satellite operators like Iridium Communications (IRDM). Everyone argues that orbital launch capacity at an economically-viable price is a strategic necessity for everything from GPS-enabled drones to missile defense, but unless Musk can pull that off, growth opportunities for IRDM and company look constrained at best.

WeWork hasn’t gotten quite as much press, but I think its update on the old “office incubator” model may ultimately be more interesting. Renting physical work space to virtual start-ups and other companies has already earned it a $20 billion valuation. When those millennials sit down at their desks for the day, their screens will run software from the giants – no real game changer for Microsoft (MSFT) or Salesforce.com (CRM) – but customer support from Zendesk (ZEN) is also on the menu. And because that company is more of an upstart, it’s probably the best way to play every warm body WeWork can squeeze into its offices.

Speaking of giants, Dropbox fans often use publicly-traded Box (BOX) as a proxy while they’re waiting for the IPO. I don’t think that’s the way to go, though: cloud storage is becoming the new status quo, but there will be winners and losers that a vendor-neutral portfolio won’t capture. Amazon (AMZN) is the only real angle here, as it runs the servers in which your cloud data lives. It’s not exactly a pure play, but the correlation does line up.

The Keys to Keep the Market Growing

October 10, 2017, 2:12 pm

It’s been a very good year for growth stocks thanks to two driving factors: strong earnings gains in tech and healthcare. In technology, the digital age continues to expand, and while beneficiaries of this (like cloud computing) have been around for a while, companies continue to modernize their IT systems. In healthcare, the biotech industry has also done well, and a lot of innovations in medical device products are driving growth.

Interest rates have stayed surprisingly low, especially in light of firming global economies. The 10-year Treasury yield is actually below where it started 2017, with European sovereign rates well below that of the U.S. due to aggressive quantitative easing (QE) programs by the European Central Bank (ECB). In addition, credit spreads (the difference in the yield between government debt and more risky investments) remain very low. This is a sign of a healthy economy where financial risks are minimal, which is always a positive for the market. These low rates have continued to facilitate the high PEs we’ve seen with many growth stocks today. As Warren Buffet said in an interview last Tuesday, the market’s valuation makes sense given the current level of interest rates.

Digging into the earnings part of the equation, it’s clear that global economic growth shows no signs of slowing, which tells me that there is no recession on the horizon. Tech spending is also showing no signs of slowing and there is still plenty of upside ahead as enterprises transition to the cloud. As for healthcare, there will come a day when the U.S. will need to deal with the high medical costs, but I don’t expect to see any major changes in government policy to address this issue until the 2018 midterm election at the earliest. In addition, while overall spending may be pressured, there will always be innovators that will help drive down costs.

Interest rates could be a little trickier, with the Federal Reserve determined to normalize U.S. rates and the ECB perhaps ready to announce a plan to taper its own QE policies when it meets on October 26. Bonds are arguably in a bubble, and I will be watching the bond market closely. However, unless the ECB tapers much more rapidly than anticipated, the central banks will likely be net purchasers of securities, especially when you take the Bank of Japan’s buying into account.

Looking at it from another angle, despite strong ISM and auto sales reported for September last week, the 10-year bond’s yield seems to be stalling out between 2.3% and 2.35%. Investors can’t rely just on those kinds of returns, so they turn to stocks and I expect rates will continue to support growth names.

The market may stay in a narrow trading range until the ECB meets in two weeks. Should it go well and earnings come out stronger than expected, we could be in for a year-end rally that takes stocks another 2%-4% higher. Longer term, the rate of gains may slow but I remain optimistic that growth stocks will keep climbing.

My Top 10 Investing Tips for Any Market

October 3, 2017, 10:24 am

There is no right or wrong investing style, but it’s important to remember several points as you hone in on your personal approach. To help you do that, I’ve listed my top 10 investing tips. Check them out below!

1.  Diversifying is crucial. No matter what your investing style is, it is important to diversify your investments. Even within stocks, it’s wise to diversify among companies in different sectors. Just as you wouldn’t have wanted your life savings to be wiped out during the dot-com crash, you should spread your investments across different sectors so you can move past future wipeouts. Also make sure to keep some cash handy for a rainy day.

2. Don’t be afraid to start your own stock portfolio. Although it is important to diversify your money, if you are able to put some portion of your investing funds into building your own portfolio of individual stocks, the payoffs can well exceed the returns from investing in bonds, CDs and even stocks owned through mutual funds or index funds.

3. Be smart in the amount you put into the stock market. You don’t need to be a millionaire to start out. An investor can begin with $500, $5,000 or $50,000. Although some brokerages have minimums of $2,000, many don’t have those requirements anymore. My rule of thumb is to be aware of the fact that whatever you invest in the market is at risk. So however much you put in, you have to be willing to lose.

4. How many should I own? If you are including diversified mutual funds or index funds in your portfolio, you will automatically own quite a few different stocks. But in terms of the stocks you pick on your own, you can choose the number you are comfortable with. It really depends on how closely you want to watch them and how much time you have to devote. Remember, the more stocks you own, the more you have to pay attention to your portfolio because it’s critical that you know what’s going on with each.

5. Always do your homework. As with all types of investments, don’t follow any trends blindly when it comes to stock picking. You must do your homework before putting your money into a company. I like to start by checking out the company’s fundamental financials.

6. Buy low, sell high. This rule is key to investing. Jump in during the early stages of a trend and jump off before it reverses, but don’t get too obsessed with timing. By this, I mean don’t become fixated on buying at a bottom and selling at the top. That kind of strategy rarely works, and will often leave you with more losses than gains.

7. Watch your fees. More than ever, average investors are buying and selling stocks through online brokers, but even if the site claims to be a “discount,” always do your research about the fees involved. There are many discount brokers today offering free or flat rates, and others that can nail you with hidden costs that can eat into your profits. In addition to broker fees, pay attention to possible maintenance fees, custodial fees and other costs (especially with mutual and international funds).

8. Look ahead to the future. It is so easy to get caught up in the now. So many of us want results today, and if we see returns, we want to spend them immediately. But think to tomorrow. Be an investor rather than a day trader. If your homework on the stock tells you there’s a long-term trend, it can make for a worthwhile holding.

9. Know your time horizon. Your investing style should reflect your age to a certain extent. Younger investors have the luxury of time to think about long-term, high-growth potential, and can even afford to take some higher-risk investments. However, the closer you are to retirement, the more you should consider putting your money into relatively secure investments. High-risk stock investing can be the path to a difficult old age without money to provide for yourself or your family.

10. Be patient and vigilant. Don’t expect a stock to take off overnight. If you are putting your money into an IPO, for instance, it might take some time for the company to grow. If you see promise and you’ve done your research and the company is solid, be patient and you’ll likely be rewarded.

Should You Be Concerned About Analysts’ Price Targets?

September 26, 2017, 4:13 pm

I know many investors wonder (and worry) about the impact analysts’ price targets have on stocks, so I wanted to spend some time today to talk about them. I think the best way to look at this is by reviewing the influence of brokerage (sell-side) research in general, which has been on the decline since some conflict of issues came to light early last decade.

Analysts were under pressure to make favorable recommendations for certain companies to investors so their firms would not lose investment banking business. Most notably, Citigroup (C) CEO Sandy Weil told his well-known and influential telecom analyst, Jack Grubman, to reconsider his “hold” position on AT&T (T) and move it to a “buy.” Then the New York Attorney General Elliot Spitzer launched a series of lawsuits against the industry, which was forced to make reforms.

Given the new regulations and declining commission rates, brokerage firms put a lot less money into sell-side research. It is not very profitable, and accounts for only a small part of revenues for firms like Goldman Sachs (GS). While it still pays well, being a lead sell-side analyst does not have the same cache of 20 years ago, when top MBA students from elite schools were flocking to brokerage firms hoping to become rich and influential analysts.

Today, relatively few analysts are able to move stocks with their own opinions, so I do not think their price targets really mean that much. Like my own, they are an estimate of where a stock may trade at some point in the future, but a good analyst will always react to changes. It is more important to get the direction right, not the actual future price.

What Low Yields Mean for Wall Street

September 19, 2017, 10:34 am

I’ve lived through some of the most volatile periods in Wall Street history, one of the worst being the spectacle that closed out 2008 and left investors nursing their wounds for years. Even hardened market professionals still bear the psychological scars of that crash and it’s clear that even with the Dow, S&P 500 and NASDAQ trading at all-time highs, there’s a lot of fear that’s still in play. We see it in the media all the time, with many claiming the end of the world is just around the corner.

The truth is that this market has proved its resilience time and again. Just last week, Wall Street weathered terror attacks in London, continued belligerence from North Korea and two of the biggest hurricanes in history, and in the process still moved to record levels. It may not be a rocking and rolling market but it sure is steady. There is clearly an underlying bid as buyers step in on every pullback.

It’s an especially good time for growth stocks. They got a lift from a very dovish policy statement and comments from European Central Bank (ECB) President Mario Draghi a couple weeks ago. He believes that the rebound in the European economy this year is largely due to low interest rates, and until he sees a definitive pickup in inflation, the central bank will remain very accommodative. While an extension of the 60 billion euro a month of bond purchases that is due to end in September has not been officially announced, it seems inevitable at this point (although it is possible the bonds will be purchased in lower quantities).

Given that 36% of European government bonds yield less than 0% and ECB assets are 40% of the Eurozone GDP (compared to the Federal Reserve owning assets at 25% of the U.S. GDP), the room for further action is limited and growing more risky. For now, though, the lower European yields are holding down U.S. yields, which is supporting growth stocks’ valuations.

When the Fed releases its policy statement on Wednesday and Chair Janet Yellen holds her press conference, we will likely hear the central bank’s plans to reduce the size of its balance sheet. This could cause the 10-year Treasury yield to bounce further off its recent 2% low and trigger some volatility in growth stocks. However, yields should remain low enough to support the stretched valuations, as I do not see the 10-year Treasury going much higher than 2.6% in the near term, which is where it started 2017.

While rates are bound to rise from their extremely low levels in a sound economy, I believe it will be at a glacial pace as accommodation will be removed very slowly. This should help continue to support valuations. That said, we’re likely to stay in a choppy environment through mid-October as these policies are discussed and third-quarter earnings are evaluated. It’s a historically-volatile time of year anyway, but I believe it will give way to a strong finish.

Moving Off the Cable Grid

September 12, 2017, 9:54 am

Sometimes it seems like the biggest advances can only be recognized in the long-term rear view, while the day-to-day pace of innovation feels incremental at best. With Wall Street weighing the odds of a 5%-10% camera enhancement on the latest generation of iPhone as a do-or-die decision, we need to look back a few decades to really see how much 24/7 wireless web and email has transformed our lives.

For example, I was pleasantly surprised by how well the utilities in Texas defied the odds and kept most of the lights on throughout Hurricane Harvey. Go back even five years and that power grid would have buckled, taking most of the foundations of the modern world — water pumps, communications, electric cars — along with it. This time, in some of the worst urban flooding in modern history, 96% of the primary grid stayed lit.

The grid has gotten a lot smarter, and it’s getting smarter and more resilient year by year. Those who piled into the hype a decade ago are only now reaping the rewards as that buzz becomes a real business. That’s how we tend to play these themes: cutting out the speculative all-or-nothing phases in favor of patiently building a position, and locking in profits along the way when the froth gets too far ahead of the fundamentals. Most of the key players renovating the grid right now are still relatively small companies — Itron (ITRI) is only barely in the small-cap Russell 2000 and Roper Technologies (ROP) and Digi International (DGII) are even earlier in their growth cycle — so there’s still plenty of time to let the story mature.

As far as the future goes, I’m tentatively optimistic about news that Roku has filed for a $100 million public offering. It’s nice to see a consumer technology company with the real-world applications Wall Street is looking for. If you’ve seen it or own one, you know Roku is elegantly small, really just a socket you plug into a spare port in your television that will then stream everything from Netflix (NFLX) to Amazon (AMZN) programming onto the big home screen. We’re a long way from the bulky days of TiVo (TIVO) and other first-generation add-on television boxes, and I think the success of this offering will signal whether the days of old-school TV-via-cable are truly numbered.

Media analysts have been talking about households “cutting the cable” for years, much as we talked about the smart grid as a hypothetical prospect a decade ago. Now the millennials and cost-conscious older TV watchers are making it happen, with tens of millions of people moving off the cable grid in favor of new streaming alternatives. This is a moment of vulnerability for Big Cable, which is going to need to carve out content deals or develop its own shows in order to compete for eyeballs and monthly subscribers.

It’s also a moment of glory for the content providers, by which I mean the networks. CBS (CBS) is turning into a leader in going direct across the internet to its audience — the company’s streaming-only channel could be a real game-changer when the historians sum up this era years from now. At that time, I’m betting we’ll be looking backward with them and counting our profits.

Investing Impacts Following Hurricane Harvey

September 1, 2017, 5:09 pm

I’d like to begin by saying that my heart goes out to all those affected by Hurricane Harvey, and what a relief it is that the storm has finally subsided. It’s almost impossible for me to wrap my head around the amount of rain that fell and the destruction it has caused. I know this is a trying time for hundreds of thousands of people, and I am so moved by the heroic efforts of so many to help. I am confident that Texas and Louisiana will rebuild and come out stronger than ever. My thoughts and prayers go out to all.

As we look ahead to the rebuilding and recovery from the horrible devastation caused by the storm, there will be some impact in the market and on stocks, which we’ve seen some of this week. I wanted to take some time today to share my thoughts on sectors that will be impacted the most: insurers and energy.

Write Off Insurance Stocks

First, the broad facts of any big storm landfall apply: insurance stocks suffer as Wall Street contemplates staggering claim payments ahead, and when the weather is in the Gulf of Mexico, oil tends to get a bid. This time around, I think the threat to the coverage carriers is real.

As such, this is not a discount buying window for stocks like American International Group (AIG), Prudential Financial (PRU) and Allstate (ALL). I’d write the current quarter off as a loss and let’s see how the charts stack against the claims a month from now. I also suggest steering clear of the reinsurance companies that pool risk for the front-line carriers and will ultimately pick up the bill for the industry’s pain. Everest Re (RE) and Reinsurance Group of America (RGA) aren’t going to bounce back from this one fast.

Breaking Down the Oil Story

The oil story is more complicated. This is the first major storm to hit the Gulf since 2005, when the global energy landscape looked very different. A decade of drilling innovation has taken a lot of pressure off Texas offshore — back then, these wells were responsible for 30% of U.S. crude production, now it’s more like 18%-20% of our domestic supply. With that in mind, I’m not looking for a huge impact on underlying energy prices. Even if the Gulf goes completely offline, the Dakotas are more than capable of picking up the slack. If you want a relatively pure play on Dakota shale, Hess (HES) just trimmed its exposure to Texas back in June.

But Houston is still the center of the world when that oil moves downstream. Every day refineries take gallons of gas and other petroleum products out of the consumption chain. That’s an immediate windfall for companies that can turn that shortfall into pricing power, passing it on to customers who need to keep the tanks off empty. Names like Phillips 66 (PSX) and Marathon Petroleum (MPC) could make for good investments here.

Of course Houston has come a long way from the days when its economy ran on nothing but oil. Stretch out to San Antonio and there’s around 10 million people here generating $500 billion worth of gross domestic product as they go about everyday life. As Hurricane Harvey has shown us, Texans are tough, resourceful people who are going to bounce back from this as fast as humanly possible. That said, the disruption is still going to take a macro bite out of the region and beyond.

Gas prices are now beginning to spike, and it doesn’t take a lot of 3% bumps at the pump to feed into consumer inflation. Remember, transportation is a hidden tax on just about everything we buy — from Amazon (AMZN) packages in delivery trucks to the old-fashioned weekend trip to the mall — and modern agriculture burns a lot of oil in itself. If the Federal Reserve was looking for an inflation trigger, this could be it. Construction materials companies and the contractors themselves are also going to get to put excess capacity to work once the region rebuilds, pulling some slack out of commodity pricing and labor costs.

Look at Freeport-McMoRan (FCX): we’re going to need a lot of domestic copper to replace wrecked housing stock. We’re also going to need domestic steel — U.S. Steel (X) — and concrete from companies like Martin Marietta (MLM) and Vulcan Materials (VMC). This isn’t the $1 trillion infrastructure package Wall Street wanted, but it’s probably enough to cycle an extra $40 billion or so through the commodity players on up.

Hitting the Brakes on Homebuilders, Travel Stocks

That said, I don’t expect local homebuilders to reap immediate rewards here. A lot of the wrecked housing in the region was uninsured or at best under-insured so we won’t see a significant number of replacements in the very near term. In the meantime, a big development footprint in Houston isn’t really a plus, since the companies that stand to benefit from the rebuild also tend to be the ones exposed to catastrophic damage to the communities they’ve already built. Lennar (LEN), Taylor Morrison (TMHC), Hovnanian (HOV) and DR Horton (DHI) are the key players in this landscape and I would stay away from them until we can see which houses need to be torn down and which can still be sold.

And while inflation would have been a breath of fresh air back in March, I don’t think the Fed wanted price pressure at the expense of economic growth. Houston and San Antonio are big and they were growing 2.5X faster than the typical American city so far this decade, despite the oil market’s boom and bust. Run the math and every 60 days this part of the country isn’t firing on trend might sap 0.1% from annual GDP growth. It’s a small number but it has an impact on the overall macro assumptions keeping us all out of recession. As such, I’m not looking toward a more hawkish environment for the Fed as a win for the banks, especially when so many key lenders do big business in Texas. Comerica (CMA), Cullen/Frost (CFR) and Texas Capital (TCBI) are the biggest regional players that might now be holding a lot of mortgage paper that’s literally underwater.

The problem with any disruption of everyday life is that the impacts add up fast. Those cruise ships that couldn’t dock in Galveston belonged to Carnival (CCL) and Royal Caribbean (RCL), which may not see a lot of downside for cancelling a week of sailing but definitely aren’t going to power up much faster. The airports that have been shut down indefinitely are huge, feeding about 6% of all U.S. air travel. United (UAL) flies 18% of its planes through Houston daily. Southwest (LUV) has similar exposure. Every day those gates are down costs those companies a fortune. Buy rivals with other hubs instead: Delta (DAL) seems to have the early lead.

We’ll talk more about longer-term portfolio implications in your issues and as the story unfolds, but I hope this report gives you a good starting point on ways to position yourself with the impacts of Hurricane Harvey.

The History of Value Investing

August 29, 2017, 10:03 am

Value investing often conjures up images of mature, sometimes quite ordinary companies that sell for cheaper than the overall market. While it’s true that most value stocks have low metrics, there is a lot more to this strategy than numbers. It is a combination of art and science, and it begins with a mathematical principle taught in the first lesson of every Finance 101 course:

The value of an asset (i.e. business) is the present value of its future cash flows.

Value investors aim to scientifically value a company based on real numbers and realistic projections – the exact opposite of wild assumptions (hope) that a company will grow 20% forever. In other words, instead of jumping blindly into what’s “hot,” they’re using solid data and analysis to more accurately identify a company’s future value.

How do you do this? Believe it or not, up to the time of the Great Depression, there was no systematic method to analyze and determine a company’s value – even though the stock market had been around for decades! This lack of knowledge and discipline helped drive much of the speculation that occurred before the 1929 market crash that ushered in the Depression.

Then in 1934, Benjamin Graham, the father of value investing, changed the game by publishing Security Analysis. For the first time, a scientific framework was laid out to analyze and value stocks. Security Analysis became the Bible of value investing (and remains so to this day for value investors), with the sixth and most recent edition published in 2008, nearly 30 years after Graham’s death.

The story doesn’t end there. Graham also taught his methods in a popular class at Columbia Business School, and one of his students was so impressed by what he learned that he offered to work at Graham’s investment partnership at no cost. He was turned down at first but would eventually work at the partnership for a few years until it was dissolved in 1958. That young student, by the name of Warren Buffett, then struck out on his own. He went on to be Graham’s intellectual successor and the greatest investor of our time. Graham was so influential in his life that Buffett eulogized him as a man who planted trees that other men could sit under. We’re sitting under those same trees.

Buffett refined Graham’s original methods and turned them into modern day value investing. This was necessary because Graham’s preferred method of investing – buying stocks that were selling for less than their liquidation value – became impractical. In the 1940s and 1950s, the stock market was still spooked by the crash, and there were plenty of opportunities to buy such companies. However, valuations rose as investors regained confidence in the market, and eventually there were only a handful trading at such a discount.

Buffett added qualitative methods to Graham’s quantitative approach, seeking the bulletproof franchises with large “moats” that dominate his current Berkshire Hathaway portfolio. Buffett believes – and I agree with him – that if a business is solid and keeps generating cash, its stock almost has to go up over time. Those are the kinds of businesses to invest in.

The Graham/Buffet approach provides the groundwork for the strategy I utilize in my Value Authority service, along with a few refinements of my own and my analysts. If you’re interested in learning more about value stocks and my strategy to play them, I recommend signing up for my risk-free trial now so you don’t miss my next recommendation!

Special Report: Why the Bulls Still Have Room to Run

August 23, 2017, 1:00 pm

Don’t Hit That Panic Button Yet

What once seemed like a forgettable summer has turned into a nervous transition into autumn as investor fear kicked up this month amid turbulent headlines. The dog days of August halted the market’s rally and upped the volatility as Wall Street grappled with geopolitical issues, turmoil in Washington and tragic events both home and abroad. With everything going on, it’s understandable that questions about where this market is going began to surface and that’s exactly why I wanted to get in touch now with this special report

There is a lot of speculation in the financial media and amongst investors that is just plain wrong, and I don’t want it to keep you from profiting in what is still a strong market. Yes, we’ve watched the S&P 500 flirt with support levels it hasn’t touched in months, but I continue to expect the index to move closer to 2,700 than 2,400 in the next year. That means that now is the time to use weakness to your advantage, and this report will outline exactly how to do that.

Let’s start by setting aside politics for a minute because that’s exactly what Wall Street is doing. While headlines out of the White House can still rock stocks on a day-to-day basis, people are doing an overall good job of discounting the chatter and watching Washington rather than trading on it. Of course, a political windfall would certainly be a bonus, especially in the form of tax reform. But for now, a flagging policy agenda is neither here nor there.

Instead, it’s all about the fundamentals and they are better than we hoped. Macro data shows that economy is staying on its post-2008 track, which isn’t a bad status quo to maintain. It has driven an eight-year bull market, and it’s definitely good enough for central banker. If the Federal Reserve wasn’t happy, they’d let us know.

We all know the basis for fundamentals is earnings, which is the biggest catalyst available for stocks, and second-quarter results were actually better than Wall Street dared hope. Targets for the rest of the year are set relatively low, so 10% corporate growth can continue for another quarter or two. That would give us 9%-10% richer profits to work with for the full year, which is more than enough to keep stock prices moving higher. After all, relief on the “E” side of the P/E calculations means the “P” side can ramp up without straining market credibility one cent.

I can hear many of you saying, “But Hilary, what about the high valuations?” This is a good point, and I can’t deny that stocks are rich and volatility is low. But stocks can stay rich and volatility can stay low for years before statistical means reassert themselves. As it is, the S&P 500 is tracking 20% cheaper on a trailing earnings basis than it did this time last year. Go back to 2015-era valuations and fair value on the big benchmark is actually closer to 2,900. If that doesn’t tell you the bulls can keep running, I don’t know what will.

Some folks have said this environment feels like 1999, when good feelings were riding high before the dot-com bubble burst. But I’d come back to them and say it’s hard to have a 2000-type crash until we live through the equivalent of 1997, when the realists truly lost their grip and irrational exuberance took over. If you bail out in anticipation of a crash before we see what we did in 1997, you’re cheating yourself out of 36 months of peak bull run.

There’s a similar correlation to what happened in 2008. We haven’t even hit 2005 yet, which is when the housing bust started poisoning credit markets. Even Robert Shiller admits that valuations can remain irrational for a long time before they crash, so we may be two or three years from that unsustainable peak. Let’s go back to P/E. The S&P 500’s trailing P/E is tracking around 19.4. That’s still fairly close to the historical norm, and not yet close to 1999 (32) or 2008 (21.4).

A similar argument can be made for the VIX (volatility index). Calm today doesn’t mean disaster tomorrow. Storms come and go but remember, VIX 20+ isn’t historically normal. It’s not the statistical mean that we’re ignoring or flouting in some way. If it got that wild, the market would already be under distress (see 2008).

How to Navigate Speed Bumps Ahead

With that long-term bull case in mind, we could still see some turbulence. But I don’t want that to scare you out of the game. When everyone else is passively sitting on positions, that’s exactly when you have to get active. The next few months are all about letting the bulls run on and picking up the treasure they leave behind.

What’s in store for investors during those months? Well, earnings are effectively over until early October so fundamental-driven models of what stocks are worth are locked in for another seven to eight weeks. As we already talked about, second-quarter numbers were better than expected and we’ve seen better-than-average preannouncements for the third quarter.

One question mark centers on the Fed, but Chair Janet Yellen is vanishingly unlikely to give Wall Street a boost before December. Any news from the central bank could actually be negative – balance sheet slimming hitting a snag, economy slowing too fast or inflation spiking – so quiet here is as good as it gets.

And of course, there’s always politics. However, news flow out of Washington has yet to provide any instant gratification. Tax cuts, foreign cash repatriation and infrastructure improvements can still happen, but the clock is ticking. In this case, quiet isn’t good but this is also where turbulence can open up opportunity.

As long as the fundamentals are strong (which they are!), news flow can push sentiment around but valuations will manage to recover. Now is the time to build a portfolio for the next time the bulls get a green light to run, so use dips in sentiment to buy up quality names.

How do you know which areas are quality and which aren’t? That’s exactly what we’ll talk about next!

Sectors to Overweight …

Financials: The banks are still cheap, trading at a net 14.5X trailing earnings. They’re also one of the fastest growing areas of the economy at 11% expansion this year and next. Sure, the Fed has slowed its agenda down, but we’ve known that for months. Sentiment around the financial sector is too negative given these conditions, creating an attractive chance to accumulate on the market’s tantrums.

Industrials: This sector is in line for some serious relief from currency markets. The U.S. dollar strengthened a harrowing 11% across the second half of 2016, and we’ve given all of that back so far this year. In the past, exchange rates at these levels have justified U.S. industrial stocks at 10%-15% higher valuations than what we see now. From where I’m sitting, it’s a good time to buy the exporters.

Aerospace: Within the industrial sector, aerospace deserves a special nod. War stocks are red hot right now and global tension isn’t going to ramp down any time soon. When headlines are calm, that’s the time to pounce because they aren’t likely to stay that way for long.

… And Sectors to Avoid

Big Tech: This group is taking the brunt of the turn in market sentiment. These were once the hottest stocks on their way higher, but now the mood needs to turn all the way around before money comes back into the FANG names in any real way. Even good earnings were punished in this sector – not a good sign! – and now that the latest season is over, there’s no real reason for these charts to recover until the next cycle starts in October. While there’s still long-term potential in Big Tech, you can probably get better prices in the next few months.

Oil: This sector may be getting support from the dollar, but the fundamentals still look terrible. Political disruption will have a bigger impact on global demand at this point than on domestic supply. That means that when U.S. producers start exporting, we’ll see current crude pricing turn into an effective ceiling – and the floor could be a long way down. The situation in Venezuela and the Persian Gulf haven’t helped, so I recommend caution here.

My Top Stock Picks Right Now

Now that you have the lay of the land, let’s get into specifics. Within the sectors I mentioned as good buying opportunities right now, I have a few names to share with you – plus, I have a couple bonus picks in the much-maligned retail sector!

Starting with financials, market turnover is finally picking up. We’re tracking above last year’s levels for the first time all summer, so I’d start with brokerage stocks like Charles Schwab (SCHW) and E-Trade (ETFC). Once those are making you money, the next Fed move will be getting close and that will open up opportunities in insurance and the money center banks. But for now, it’s all about the upswing in market action so stick with those two.

In the industrials, Caterpillar (CAT) has been unstoppable and I don’t see that changing anytime soon. For the niche aerospace theme, I also like Boeing (BA) and Raytheon (RTN) as plays on the export upside. Drilling down even further reveals some high-tech aerospace/defense names: KLX (KLXI), Textron (TXT) and Leidos Holdings (LDOS) are growing fast and priced right.

Now when it comes to retail, you need to be smart. I wouldn’t count out the U.S. consumer, but you need to be selective. I would avoid the malls and focus on competitive sizzle. Ralph Lauren (RL) is an interesting player in the retail landscape right now because it’s a luxury, multi-channel brand that’s not going anywhere no matter what Jeff Bezos does with Amazon (AMZN). Speaking of the online behemoth, I’d avoid AMZN until we see proof that Wall Street has fallen back in love with it – just now that it could take weeks or months.

My last pick may sound a bit out there, but avocado marketer and distributor Calavo Growers (CVGW) is on an earnings growth fast track. And with avocado fever hitting new levels with millennials, it’s in prime position to take off with this leading demographic behind it.

Ready for More

I hope this report cleared up any confusion or concern you may have had about the market, and provided direction for where you can take your portfolio in the coming months. I continue to see strong performance ahead, and I don’t want you to miss out on any of it. Stay tuned for more exclusive content, as I’ll keep you updated every step along the way.

Thanks for reading!

Can the Bulls Beat the Bears?

August 22, 2017, 4:40 pm

As investors remained mesmerized by the headlines that sparked fresh market volatility last week, an unexpectedly solid quarter was once again lost in chatter and distractions. Instead, the focus was on the domestic spectacle of divisive White House messaging and disbanding of two business councils after several CEOs stepped down from them, causing a loss of confidence in the administration to be Wall Street’s pro-business force.

In addition, the slowing momentum in the market, which is virtually unchanged since June 1, is giving investors an excuse to take profits. This may be especially true as we enter the seasonally-weak September and October period, which has generally been soft since 2010.

The result of those headlines was a sell-off on Thursday, with the S&P 500 posting its biggest one-day drop in three months, breaking its 50-day moving average and barely closing above support at 2,430. Its close at 2,425 the following day was its lowest since July 11.

Wall Street may remain sensitive to political headlines in the near term, and we may see the S&P retreat further to 2,400-2,420, with a break below 2,400 also possible. We are currently in the third-longest period in history without a 5% correction, and a slip of that magnitude would take the index closer to 2,360, where it bounced sharply following a Trump scare from earlier this year.

However, I remain confident that the bull market will eventually rage on, it just needs two pieces to fall into place to get it firing on all cylinders to again. First, we’ll need to see how the bond market reacts to the Federal Reserve’s plan to unwind its massive balance sheet and the European Central Bank’s (ECB) to taper its own quantitative easing (QE) program. We could get a lot more detail on both decisions next month. I do not think the 10-year Treasury will climb much above 2.75% this year, but a small move higher could ding stocks, especially growth stocks, from these levels.

The second is earnings. There needs to be more confidence that the S&P can get from this year’s expected $132 a share to $146.50 a share next year. The 2018 estimate is probably too high, as forward estimates almost always come down from this far in advance. In addition, this level of EPS assumes higher oil prices to drive energy companies, which is looking less possible. However, if the S&P can get to $140 a share next year and hold a PE of 19, it should be able to hit 2,660, which is more than enough for worthwhile gains.

Although $140 a share is possible, slowing auto sales, slower loan growth and even some thought that housing is slowing in light of Home Depot’s (HD) earnings report last Tuesday are pushing against that goal. Because of this, it may take some time for the Street to work out this uncertainty about earnings next year.

All that said, I remain confident that the market is set up for a good year-end rally given the overall positive fundamental picture. Once we get past any near-term turbulence, I expect the market to close much higher than where it began.