Friday, April 25, 2008

Procter & Gamble (PG): Solid as always

PG: Solid as always
Posted 0 days ago on 4/24/08
PG: Buy, Target Price: $72, Time frame: 6 months

In the midst of a recession, when the consumer is tapping out due to high energy costs and the plummeting values of their homes, stick to the basics. And, that's exactly what Procter & Gamble does. They are a boring, run of the mill blue chip stock. PG delivers solid, consistent returns just like JNJ. Procter & Gamble are involved with producing name brand consumer goods. They have health and beauty products, household care items, and acquired Gillette a few years back, incorporating their products to their lineup. Some of the names you will be familiar with include: Duracell batteries and Braun grooming products. As you can see, PG is simply a consumer staple play. Just like JNJ, Procter & Gamble doesn't provide you with a cool growth story to brag to your buddies about. It does, however, provide you with very consistent returns that can both preserve and grow your capital, as well as reduce your portfolio's risk.

If we are in a recession, these people still need batteries and shaving cream. If we are in a bull market, people will still need cleaning supplies and diapers. The economic environment doesn't matter because PG sells consumer staple goods. PG thrives in a bull or bear market, and that's the beauty of it. As we all have seen over the past few months, slowed growth and recession can hit your portfolio hard, so you need to be defensive. PG diversifies you into a consumer staples sector as well as reduces your risk due to its ability to function in any type of market. As I said in the beginning of this analysis, this pick is a boring blue chip with consistent returns. My main rationale for selecting PG along with JNJ in the consumer staples sector is that they have consistently strong numbers underlying their profitability. The fundamentals alone reveal why PG's stock returns are so consistent. PG has a trailing PE of 20 and a forward PE of 17, so it is technically cheaper on valuation than a competitor like JNJ. With a price to sales ratio of only 2.6, PG can be deemed undervalued by this metric (anything under 5 is considered undervalued). With a price to book ratio of only 3, PG is also slightly attractive in this facet. In this kind of environment, you have to pay a slight premium for protection. JNJ and PG offer that. PG is a solid company though with strong operating margins of 20.29% and a return on equity of 16.66%. These numbers illustrate that PG can perform well in any type of economic environment. Even in a period of slowed growth, PG is seeing 9.4% quarterly revenue growth (this number has accelerated too) and 14.3% quarterly earnings growth. Once again, slow and steady wins the race. And, that's all we need until the market can pick a direction and stop trading sideways in ranges.

Also, looking at institutional ownership of PG once again reveals that Mr. Warren Buffett loves the consumer staples sector, especially JNJ and PG as they both offer great valuation and consistent returns. Buffett's Berkshire Hathaway has an even larger stake in PG than in JNJ. They have pumped a $6.4 Billion investment into PG and it makes up 10.6% of their portfolio. Other notable institutions with very large stakes are investment bank JPMorgan, and investment firms such as Janus and Vanguard. Also, it must be mentioned that 4% of PG's shares are owned by insiders; a very strong number. Investors obviously don't need to recognize large institutional ownership as a reason to own PG, but it certainly helps convey the overall market confidence in PG. Next, let's turn to analyst coverage of PG. 11 analysts rate PG as a strong buy, 1 as a moderate buy, a 4 as a hold. As you can see, an overwhelming majority of analysts love PG. In terms of star rankings, UBS ranks PG 5 stars, while Merrill Lynch, Bear Stearns, and Oppenheimer all rate PG 4 stars. Once again, the investment banks are big fans of consumer staple plays (especially PG).

This is a boring stock to talk about because they make everyday items and don't provide astronomical growth-stock-like returns. However, PG does provide consistent gains, which I am a big fan of in an uncertain market like we are currently in. If negative economic data continues to be revealed, PG will be there to reduce your portfolio's risk and provide solid consistent gains over the long term. People need PG's products no matter what kind of market or economic environment we are in, that's the great thing about it. Its boring to talk about, its a blue chip behemoth, and you simply can't bet against them. PG is a long term value play because consumer staples will never go away.

PG: Buy, Target Price: $72, Time frame: 6 months

Merck (MRK): Selloff = violent over-reaction

MRK: Sold off due to over-reaction
Posted 0 days ago on 4/24/08
Buy: MRK, Target Price: $75, Time Frame: 1 year

Yet again, Merck (MRK) has seen its shares sold off irrationally and hastily. In recent months, MRK's value has plummeted due to investor/trader overreaction. Sure, the negative news that came out each time warranted a slashing of MRK shares. But, what we saw instead in this uncertain market environment was a complete and utter beatdown. 4 months ago, MRK was trading at $60. Now, it trades at around $38. Investors sold off this name on the panic (just like many other names) but then the shorts leaned in on this name and really drove it down. Look at it this way, nothing has materially changed at MRK's business. Their earnings are still strong and the worries surrounding their drug Vytorin are overdone. If you've followed the street for any amount of time you know that when a company misses estimates or comes out with negative news, the shares drop. Pile that in with a bear market and you've got a recipe for disaster. So, all this overreaction has simply presented an opportunity for longer term MRK investors. Remember the Vioxx scare? MRK certainly rebounded from that back up to $60. Vytorin worries now? No problem. Just pick up some shares of MRK on the drop and hold it for the year and you should see a solid recovery story just like before. Normally, when a stock announces it's going to be losing $4.85 billion, that would be seen as a very bad thing. But, in Merck's case, it is not. Merck (MRK) has settled its Vioxx lawsuits to the tune of $4.85 billion. This is actually a very good thing for the company because if they had fought each case individually, chances are, they would have had to pay a lot more. And, more importantly, it gets rid of the Vioxx noose that has been around its neck for so long. And now, with Vytorin questions looming, investors "sell now, ask questions later."

MRK has lost a third of its value this year mainly over Vytorin concerns. Yet, they have even said Vytorin is not meaningfully going to impact earnings in a negative manner. In fact, MRK just reported earnings and beat estimates by 3 cents. Even in this recession. Sure, they lowered the estimates for Vytorin and Zetia which obviously should not send the stock higher. But, it should not take off a third of the stocks value when you have not seen it affecting earnings. And, management has even said it should not change anything too much in their quarters. Roughly, this drug can represent 8% of MRK's sales and they just lowered the guidance. They didn't say this drug won't sell, they didn't say they're going to take a loss either. They're simply going to not make as much money as they once thought. MRK is trading at about 12 times earnings for this year. You be the judge.

Fundamentals: Merck has a trailing PE of 25 and a forward PE of 10.5, reflecting even more growth going forwards. Its PEG ratio of 1.27 is slightly high, but still manageable when you see that its price to sales ratio is just 3.55, indicating ndervaluation. So, Merck is actually fairly valued here. In addition to that, they have operating margins of 25.8% and a return on equity of 18%, very solid numbers in both categories. This is the main reason to buy MRK for the long term. Sure, eventually growth will slow. But, until then, you have to be in this name. Not to mention, MRK also has only $5.7 billion in debt, as compared to its $8.2 billion in cash. So, their debt to equity ratio is quite low and they can service this debt without any problems. Lastly, they are a dividend darling in the sense that they have a strong dividend of 4% and this dividend has been raised over numerous years. Since it's a long term play, treat it as your high yield savings account as this stock by itself yields more than typical online high yield savings accounts and most bonds or CD's. In addition, you get whatever share appreciation there should be over the year. And, if you want to make the deal even sweeter, write some covered calls on this name 10% or so out of the money each month. This will generate some premium that you can pocket each month in addition to the dividend.

Institutional Ownership: Some of the great hedge funds out there own this name. MRK can be found in numerous hedge funds' portfolios including: Maverick Capital, Caxton Associates, Ken Fisher, and Bridgewater Associates. Maverick is a $10 billion fund with consistent guidance from Lee Ainslie. Caxton Associates is a $20 billion fund with a global macro trading platform. Ken Fisher runs a $30 billion asset management firm and is a well respected big time investor. Bridgewater is a powerhouse in the hedge fund industry, managing over $160 billion. So, as you can see, there are some big guns in MRK and the most interesting bit is that all these funds implore different strategies, yet they are all in MRK. That says a lot about MRK as a company. No matter what strategy they are using, they all want to be in MRK for different reasons. MRK is clearly a solid play. And, you can bet that some of these firms have been adding on the severe "fire sale" of MRK shares.

MRK has been beaten down solely because of the market environment we are in. Should this have been a typical bull market, MRK shares would only be off 10% at most. Yet, since we are in a bear market with uncertain conditions, MRK has seen investors panic and short sellers lean in on this name. This 30% haircut MRK has seen is simply a casualty of the market environment. Be smart and think for the long term to add on the dips for this name if you're a long term player. If you're not a long term player, then move along this name's not for you. 1) They finally got the massive Vioxx lawsuit off their hands. Yes, they had to pay a lot to do so, but it saved them a ton of money by settling rather than fighting each individual case. 2) Their fundamentals are very very strong and that's the main reason they are so dominant in their industry. Their quarterly earnings growth is huge, and this is the main driver for any company. That is one of the main numbers you look at in terms of a company's ability to perform. 3) Numerous big investors and hedge funds have large stakes in MRK. Whether it be for valuation reasons, macro reasons, or growth reasons, all the big names mentioned earlier have large positions in MRK. They fully expect MRK to continue to grow and dominate within the pharmaceutical industry. 4) Vytorin worries are overstated. Yes, they will not see as many sales as anticipated. But, right now the street has effectively priced in as if they will practically no Vytorin. Not to mention, this drug only makes up around 8% of their total sales for the year. Violent reactions create excellent opportunities. Buy MRK for the long term (at least a year) to capitalize on a severe market overreaction.

Buy: MRK, Target Price: $75, Time Frame: 1 year

Johnson & Johnson (JNJ): Slow and steady

JNJ: Slow and steady
Posted 0 days ago on 4/24/08
JNJ: Buy, Target price: $72, Time Frame: 6 months

Johnson and Johnson operates in one of the few sectors of the economy that can do ok and thrive in a slowed growth or recessionary environment. As the old saying goes, slow and steady wins the race. This cliche summarizes Johnson & Johnson (JNJ) up quite nicely. This stock is nothing extravagant, not super volatile like some Chinese or tech stocks, and quite frankly, boring. This is your atypical run of the mill blue chip beast. That's right, JNJ won't add massive returns to your portfolio like some growth stocks, but it will deliver consistent returns, and that's what is so great about it. Johnson & Johnson (JNJ) researches and makes consumer staples, that's all there is to it. They have over 250 companies involved in the industries of pharmaceutical, medical devices, and consumer products. They make the goods you use on an everyday basis to stay healthy. Items in their arsenal include Tylenol, Band Aid, and Neutrogena. JNJ makes boring stuff you use everyday, and that's exactly why you should own the stock. JNJ is not a growth story, it is not a value story. JNJ is simply a survival story at this point. Look for this sector and this company in particular to help you weather the economic storm in your portfolio. Their products are all over and constantly used; they are necessities in any household. And for that exact reason you should own JNJ. And, if you haven't noticed, the stock has been performing quite nicely while numerous other stocks have struggled the past few months.

When times get tough and people start to see their income shrinking, they stick to the basics to survive, and JNJ provides just that. Johnson & Johnson performs well in any market, but performs even better in a recession. JNJ will still deliver the same consistent returns it always does. That is the main selling point of JNJ: consistency. You know what you're getting and you don't need to worry about the market environment. In an uncertain environment like we are in now, add consumer staples to the portfolio to a) diversify your portfolio and b) reduce your risk. If other sectors in your portfolio get hit hard, JNJ will stay strong and consistent. (Hence why you see it at a 52-week high while the rest of the market begins to tank). Now, the sector of consumer staples is pretty large and filled with some big names, so why JNJ? Well, the fundamentals explain the reason as to why I am selecting it as one of my main consumer staple plays to help reduce risk in your portfolio. This means that not only does JNJ protect you from short term uncertainty, it gives you a lot of upside in the stock for the long term. Take a look. JNJ has become slightly pricey at these levels, but that's completely acceptable as it's the premium you pay to protect yourself in a rough market. With a trailing PE of 16 and a forward PE of 14, JNJ is not unattractive though considering the environment we are in. And, not to mention, it has gotten cheaper on valuation when compared to last quarter because it is now trading at a lower PE. With operating margins of 25% and a return on equity of 24.6%, JNJ has a strong core business. These numbers allow them to have a 7.7% growth in quarterly revenue, despite the environment we are in. Again, JNJ is about consistency. Lastly, by a price to sales metric, JNJ is undervalued with a PS ratio of only 3.1 (anything under 5 is undervalued). Also, JNJ's price to book ratio is 4.47 which isn't bad at all either. So, you are barely paying a premium for the protection JNJ offers. Lastly, JNJ dominates in terms of quarterly earnings growth, seeing 39.8% growth year over year.

Institutional Ownership: Warren Buffett's Berkshire Hathaway has invested over $3 Billion in JNJ and owns over 53 million shares of JNJ. It makes up 5.4% of their portfolio. Buffett's track record speaks for itself, and I can definitely see why JNJ is one of his favorites. Looking at other major institutional owners reveals that all the other big dogs are there, such as Vangauard, Fidelity, and Barclays. When looking at things from a hedge fund ownership perspective, you will see that Renaissance Technologies holds 3.1% of its portfolio in JNJ (a $2 Billion investment). This hedge fund is often regarded as one of the top10 hedge funds out there. Now, there are many other big owners of JNJ, but these are the names that speak volumes. All these firms realize that JNJ has value and that it services a sector that will never go away. A look at analyst coverage reveals 7 strong buys, 2 moderate buys, and 5 holds. Not one negative recommendation. A look at the star ratings reveals that Bear Sterns and Raymond James rate JNJ 5 stars, while Bank of America, Goldman Sachs, and 4 other major investment banks all rate JNJ 4 stars. They all expect JNJ to easily outperform expectations with low risk.

Stay diversified and reduce the risk in your portfolio with JNJ.

JNJ: Buy, Target price: $72, Time Frame: 6 months

Diageo (DEO): International Flavors

DEO: International Flavors
Posted 0 days ago on 4/24/08
Buy: DEO, Target Price: $98, Time Frame: 1 year

A while back, I wrote an analysis on DEO with an $87 price target to be achieved in 6 months. And, I was pleasantly surprised to see that it reached that target in less than 3 months time. As a matter of fact, it surged an additional 6 points to 93 before settling back down. So, looking at the rationale behind buying DEO the first time, I noticed that the fundamental story behind DEO still holds true and there's no reason for this name not to perform well throughout next year. So, let's re-examine DEO. It's been a few months and we've let it cool off and digest its big move. After consolidating and dropping off like the rest of the market, DEO has formed a nice base and has begun trending back up higher. It's a great time to load up on this international company.

If you're unfamiliar with what Diageo does (as I was when I first heard about them a few years ago), Diageo (DEO) makes alcohol, that's all there is to it. Their brands include Captain Morgan, Smirnoff Vodka, Johnnie Walker Whiskeys, Baileys, Guinness, Crown Royal, and most recently, Absolut Vodka. People have vices, and DEO is their supplier. People all around the world obviously love alcohol and so its one of those recessionary proof names. So, regardless, this is a good name to have in the portfolio. DEO truly has a global presence and caters to nearly every type of alcohol drinker with their diverse line of products. This is a recessionary name because its alcohol (think Altria/MO/PhilipMorrisInternational/PM). At the same time it's a great multinational company due to its large international exposure. And, its just simply a well-run company.

To prove that, all you have to do is look and see that DEO has actually been stealing market share from traditional beer producers such as Anheuser Busch. The trend so far is a decrease in beer consumption and an increase in wine and spirit consumption. Specifically, in regards to the domestic beer market, consumers have been shifting from the typical names such as Budweiser and Coors and have been shifting to the craft and specialty beers, which obviously benefits DEO. Now, at the same time, don't expect domestic beers to just drop off the planet all of a sudden, but there has been a noticeable shift and it seems to favor Diageo and hurt the likes of Anheuser Busch. And, unlike Anheuser, Diageo has a vary diverse product offering, ranging from wines to liquors to spirits, etc.

Fundamentals: Currently, DEO has a market cap of $53 billion and a trailing PE of 17 and a forward PE of 15. DEO's price to sales ratio is very attractive at 3.49, well below the undervalued region of 5. DEO's PEG ratio could be better though, coming in at a slightly high 1.62. But, this is a 5 year predicted growth rate and we will only be playing this name for the next year, so we could technically calculate a whole different PEG for our purposes. Turning to operating margins we see that DEO enjoys healthy margins of 28.75% (slightly increasing quarterly too). Also, DEO's return on equity comes in at a strong 36% (accelerating rate as well). These numbers are very strong and are helping fuel DEO's bottom line. The only major negative with DEO is their debt. They currently have 13 billion worth of debt, and only 1.75 billion in cash. So, keep this in mind when considering this name. Keeping track of how DEO manages this debt is essential to their continued success. If you are a true fundamentalist, then this ratio of debt/equity might completely steer you clear of this name, which is understandable. It is indeed a lot of debt. But, at this stage, given my time frame, I'm looking more at their international exposure and diversified product base.

Next, let's turn to another major reason to buy DEO. Originally, when I first analyzed DEO, the technical signals were very bullish and were a main reason behind the buy then. This time around, they tell a slightly different story. Currently, DEO is in a slight uptrending, but still below its 200 day moving average. One positive though, is that it is currently trading above its 50 day moving average and is using this line as support. So, as long as this uptrend stays in tact, DEO should be crossing above its 200 day moving average, giving it a completely bullish chart. Given the market conditions currently (overbought, due for a correction) it is a very real possibility that DEO will trade sideways or even below its 200 day moving average. I mainly just wanted to write about this name now before I forgot about it. So, right this second is not necessarily the best time to buy DEO. Sure, the uptrending pattern from its recent low in January is a great sign, but ideally I'd like to see it break above its 200 day moving average. DEO seems to trade in a distinct range on the chart, using its moving averages and bollinger bands as support lines. There are obviously a lot of technical traders/investors who play this name since it seems to always bounce right where it should based on technicals; call it a self-fulfilling prophecy.

Looking at the institutional ownership aspect of DEO, we see that there are some big names with big stakes in this company. Lazard Asset Management, Renaissance Technologies, Fidelity, Barclays, Wachovia, Bank of America, Keybank, Fidelity, and Legg Mason all have major positions in this name. Each of these companies has invested at least $172 million into DEO, with Renaissance Technologies investing as much as $328 million into DEO. And, no, Renaissance is not actually a technology company, but rather one of the most consistent and successful hedge funds in the game. They are known for dominating the market and achieving excessive returns on a yearly basis. So, when they take a large stake in a company, you want to take notice. Their confidence in DEO should instill confidence in the everyday investor regarding this name.

As I said earlier, it might be a little early to get into this name so watch it carefully; I just wanted to write about it before I forgot. Its currently in a great slow and steady uptrend over the last 3 months and is sitting on the 50 day moving average as support. If it breaks above the 200 day moving average at around $84 then you can be a strong buyer. Right now I'd only scale into it until we get confirmation of the trend and that the support line holds. Last time the technicals worked perfectly as it reached my 6 month target in just 2 months. So, let's see if DEO can continue its uptrend as investors pile into a name they know is safe when uncertainty surrounding the US markets and economy increases. Play DEO for its product line and international exposure and maybe we'll get lucky again and have it reach the price target in a fifth of the time again.

Buy: DEO, Target Price: $98, Time Frame: 1 year