Keeping Stocks On Course
The stock market indices continue to crawl toward record highs without attracting much interest and even less enthusiasm. Despite the usual sound and fury, the overall market gains are tepid with both the Dow Jones Industrial Average and the S&P 500 up only one percent for the year to date.
Market highs seem to make many investors fearful. They need not, as they are not the same as market tops, far from it, as stocks reach new overall highs surprisingly often. Going back to 1928, the S&P 500 has notched a new high on average 13 times a year. As that period includes the 25-years after 1929 when it failed to make any new highs, new highs really are not particularly newsworthy.
The historical accumulations of new highs confirm the favorable results available from sensible stock investments. Greed, euphoria and hubris are the perennial hazards. These are sometimes flagged in excessive valuations like those in the infamous dot.com feeding frenzy when Cisco’s stock price hit 127 times earnings and Yahoo 418.
Attention should be paid to valuations. I’m not recommending Netflix now at 162 times earnings nor Amazon, which is trading at 182 forecast earnings for next year. Overall P/E ratios today are around 17 with many growth leaders trading in a range from 20 to 30. These ratios are moderately above long-term averages but well below market peaks.
Stocks with superior growth in earnings have persistently provided higher returns than simply accepting market averages as a benchmark. Our portfolios so far this year are providing returns in excess of the excessively modest one percent from overall market performance so far.
The Federal Reserve has signaled clearly that it intends to include its accommodative interest rate policies for the foreseeable future, even it does raise rates this fall. After sliding back in the first quarter, the U.S. economy is back on track for moderate growth this quarter and for the rest of the year. A slow growth, moderate interest rate environment has historically been favorable for stocks, particularly of companies with higher growth rates. Three sectors provide specific growth opportunities: technology, health care and residential real estate.
The tech sector is going through its recurring periods of disruption. Such transitions often provoke merger activities with both Broadcom (BRCM-$52) and Altera (ALTR-$51) in agreement to merge with Intel (INTC-$32) and Avago Tech (AVGO-$139). All four are buys.
Managed care companies also entered the merger arena and the Supreme Court ruling upholding the Affordable Care act added impetus to this sector. Aetna (AET-$131) and CVS (CVS-$105) are buys. So are biotechs Amgen (AMGN- ($158), Celgene (CELG-$119), Jazz Pharm. (JAZZ-$179) and Illumina (ILMN-$219).
Allergan (AGN-$308) is the new name for Actavis, which acquired the Irvine-based Botox maker. The combined company is a rapidly growing mix ranging from generic and OTC drugs to aesthetic, eye care and cardiovascular pharmaceuticals. Its 2016 earnings will be nearly $18 a share, up from $14.
Home prices are finally showing significant upticks. With consumer confidence reviving, this will boost sales of Masco (MAS-$27), the broad based manufacturer of home improvement and building products. This is a substantial company ($8.5 billion sales) that survived stresses from the collapse of the housing market in 2007-2008 and is returning to growth. Earnings for 2015 are estimated at $1.21, up from $1.02, with $1.54 seen for 2016.
Acuity Brands (AYI-$181-LED lighting) and Trex (TREX-$51-decks and railings) are recent buy recommendations. Homebuilder stocks are more speculative, as usual, with Lennar (LEN-$51) the best in class. Mortgage lenders, even well run banks like Wells Fargo, are still burdened with the consequences of the housing debacle.
With June almost behind us, stocks continue to remain on course. Investors should do the same, emphasizing stronger stock sectors and easing away from fading blue chips among energy and utility stocks.
Tony Crowell manages stock portfolios for individuals and their trust and retirement accounts with CROWELL•ROBERTS Investment Counsel, a registered investment advisor in Laguna Beach since 1995. [email protected] 949.494.1376/800.697.2622