Stellantis‘ Ram 1500 pickup trucks just passed Chevy to become the No. 2 U.S. seller behind Ford Motor. Here, its 2022 Ram 3500 Heavy Duty Limited Crew Cab Dually.
Courtesy of Stellantis
Don’t let inflation fears dominate your investment thoughts. Save time to worry about earnings growth, too.
Below, some statistical bellyaching and portfolio defeatism, plus one Wall Street bank’s top stock picks for the times.
Fourth-quarter reporting season is about 80% over, and the results are solid enough. Most companies have beaten expectations, and earnings per share are on track to rise 26% from depressed levels a year ago. That marks the end of easy comparisons, however.
During the current quarter, earnings are expected to grow by just 5%. The full-year estimate is a bit brighter at 8%, but don’t count on it. Historically, February’s consensus for full-year earnings has overstated the actual number by an average of five percentage points, according to BofA Securities. If we assume just 3% earnings growth in 2022, the S&P 500 is priced at 21 times forward earnings.
Near-zero interest rates have made pricey shares a good deal over the past decade, but now rates are headed up. Inflation is the hottest since 1982, and the financial press is running out of pop-culture references to make the point. I’ve personally burned throughE.T. and the Commodore 64. The Federal Reserve needs to act before I get to Q*bert.
Goldman Sachs just boosted its estimate for rate increases to seven this year from five. It reckons the Fed will move a quarter point at a time, but half-pointers are possible, too.
Hang on: Aren’t low bond yields telling us that inflation will come down quickly? Yes, but there are three problems with banking on that. First, yields have been tiptoeing higher. The one on the 10-year Treasury note has climbed from 1.8% to over 2% this month. Second, as of this past week, the Fed was still buying Treasuries to suppress their yields. It plans to stop, of course, but only after a few more weeks, so as to not damage the economy by appearing to show too much alarm over the damage it’s causing to the economy.
The third problem with listening to Treasuries is that they don’t seem to know anything. Jim Reid, the top credit strategist at Deutsche Bank, recently plotted historical 10-year Treasury yields against what the inflation rate turned out to be over the following five years. The pattern looked a bit like a milkshake made with the blender lid off. There was just a hint of predictive power at yields below 6%, and it was negative. In other words, Treasury yields now are probably saying nothing, although they could be gently whispering that investor returns from here are likely to stink.
I’m not lightening up on stocks. Starting valuations are a poor predictor of one-year returns, history shows. Plus, every time I write a slam-dunk, can’t-miss thesis on why the market is headed lower, you pranksters run prices straight up to make me look foolish.
It’s hilarious, but I’m on to you. I’m sticking with my regular diversified portfolio of stocks and safe holdings like bonds and cash so that I can lose money this year in noncorrelated ways, like in a sudden selloff, or through the corrosive effects of inflation.
And who knows? Maybe markets will find a way to shake off their slow start to the year, ignore the coming barrage of rate hikes, and extend their magnificent bull run.
For investors looking to tweak their holdings to better match current conditions, value stocks remain attractive. They have outperformed by eight percentage points this year, which is to say, the Russell 1000 Value
index is down only 1%, to the Russell 1000 Growth index’s 9%.
That comes after 15 years of growth-stock dominance. The discount for value stocks remains unusually large. Plus, in fourth-quarter results, value has looked growthier than growth, increasing earnings by 30% versus 25%, according to Credit Suisse. It expects value stocks to continue to lead on earnings growth this year.
Also, there has lately been an uncomfortable number of earnings-day blowups for growth stocks. Netflix (ticker: NFLX), Teradyne (TER), PayPal Holdings (PYPL), and Meta Platforms (FB) each suffered stock drops of more than 20% on the day following their reports, making for the highest such proportion for growth stocks since the late-1990s dot-com bubble, according to BofA.
For easy value exposure, there’s always Invesco S&P 500 Pure Value (RPV), an exchange-traded fund. The key to picking individual value stocks, says investment bank Jefferies, is to separate cheap stocks with upside drivers from traps. To that end, the firm screened its coverage universe for Buy-rated names with low price/earnings ratios and high free-cash-flow yields, and then polled its analysts for their highest-conviction picks. Here are six of them ranked by my enthusiasm, starting with lukewarm and running through tepid.
Anthem (ANTM), a health insurer, at 16 times earnings, has grown earnings per share by an average of 13% compounded over the past decade, and might have been conservative with its 2022 guidance. Brunswick (BC), a boat maker, at 10 times earnings, is benefiting from a surge in younger buyers taking to the water.
Freeport-McMoRan (FCX), 12 times earnings, stands to cash in on tight inventories for copper. Microchip Technology (MCHP), 16 times earnings, looks likely to pay down debt and ramp up its dividend. Recent yield: 1.4%.
Owens Corning (OC), 10 times earnings, makes insulation and roofing materials, and high demand there could be longer-lasting than the stock price suggests. And Stellantis (STLA), a mere four times earnings, is 12 to 18 months behind rival car makers on the shift to electric, but its Ram 1500 pickup trucks just passed Chevy to become the No. 2 U.S. seller behind Ford Motor (F).
Write to Jack Hough at [email protected]. Follow him on Twitter and subscribe to his Barron’s Streetwise podcast.
