CWS Market Review – December 26, 2014

“The best stock to buy may be the one you already own.” – Peter Lynch

I hope everyone had a wonderful holiday. Despite this past week being a holiday-shortened week, there was still some important economic news. On Tuesday, the government revised higher the Q3 GDP report to 5%. That means that the third quarter was the strongest quarter for economic growth in eleven years. The Dow celebrated by breaking through 18,000 for the first time in history.

There might be more good economic news for Q4. This week, we learned that personal income and spending remained strong through November. Also, the latest consumer confidence report came in at its highest level in nearly eight years. Lower gasoline prices are clearly making people feel more optimistic. One sour note was a poor durable goods report. This may mean that consumers are leading the economy while business spending takes a breather. I’ll have more on this in a bit.

In last week’s CWS Market Review, I unveiled the 2015 Buy List. In this week’s issue, I’ll go over the new buys in more depth. Remember that the new Buy List will take effect at the start of trading on Friday, January 2.

The market is closed on Thursday which is New Year’s Day, but that’s when I’ll send out next week’s issue. In it, I’ll give you a summary of our 2014 Buy List, and I’ll run down the details on our new Buy List. I’ll also give you Buy Below prices for our five new buys. Now let’s take a look at that blow-out GDP report.

The Strongest Economic Growth in 11 Years

This past spring, a lot of folks got rattled by the rotten GDP report for Q1. The more data we got, the worse it looked. A lot of businesses blamed the slowdown on the lousy winter weather (remember the polar vortex?). At the time, I remember a lot of bears rolling their eyes at this thinking it was a lame excuse for poor numbers. But the bulls were right. The economy was getting better, but it was doing so very slowly.

The GDP report for Q2 was quite good. Then in October, the government said the economy grew by 3.5% in Q3. Last month, Wall Street was expecting that number to be revised lower. It wasn’t. It was revised higher to 3.9%. Then on Tuesday, it was revised higher again, up to 5%. That’s the best number since the third quarter of 2003. Let’s also remember that the third quarter was July, August and September, which means this was before the big fall in oil prices.

I wouldn’t say that the economy is strong, but things are improving. The housing market remains sluggish; existing homes sales dropped to a six-month low. But the housing market should get better from here. Mortgage rates are down and housing inventories are low. Plus, demographics are working to the housing market’s advantage.

On Tuesday, the Michigan Consumer Confidence Index for December rose to 93.6 from 88.8 in November. That’s the highest level since January 2007. Americans have more spending money and they’re out shopping. We can see the results on our Buy List. Ross Stores ($ROST) broke $94 per share this week, and Bed Bath & Beyond ($BBBY) hit $76 per share. What a turnaround for BBBY! In the last six months, it’s gained $20 per share.

We can’t declare economic victory just yet. There are still many weak spots around the world. The latest report on durable goods was also quite poor. By durable goods, we mean orders for things meant to last three years or more. Economists were expecting a 3% gain. Instead, durable goods fell by 0.7% last month.

Part of the weakness was due to a big drop in defense-related areas. But even if we exclude that, the numbers were pretty blah. This could mean that consumers and businesses have changed places. It was business spending and record profits that led the recovery. Now it appears that business spending has cooled off while consumers take the lead. I’ll need to see more data before I’m confident in saying this is a trend.

2014’s Dominant Theme: The Strong Dollar Trade

The major investing theme of 2014—the surging U.S. dollar—showed no signs of abating last week. The strong GDP helped this trend as well. What can I say? People love owning the currency of a winning economy.

The euro dropped below $1.22 for the first time in more than two years (see below). Earlier this month, the poor yen dropped to a seven-year low against the dollar. On December 19, the yield on Japanese two-year notes fell to -0.04%.

The effects of the Strong Dollar Trade are still quite visible. According to AAA, the average price at the pump fell to $2.38 which is a five-year low. I noticed that Treasury yields perked up this week after the GDP report. The yield on the 10-year Treasury now goes for 1% more than the average of the other G-7 countries. That’s the widest gap since 2006.

I think we can conclude that the message from Janet Yellen and her friends at the Federal Reserve is getting through. The market now sees a rate hike coming sometime next year. Before the last Fed meeting, futures traders thought there was a 53% chance the Fed would raise rates by this September. Now that’s up to 68%.

The interesting security to watch is the two-year Treasury. In mid-October, the yield on the two-year was going for 0.34%. Now it’s up to 0.73%. After hibernating near 0.1% for three years, the one-year yield suddenly woke up. This week, the one-year yielded as much as 0.28% which it hasn’t done since April 2011.

A strong move for a currency unleashes forces that eventually weaken the currency. I doubt we’ll see the U.S. dollar impact the markets in 2015 as dramatically as it did this year. This will especially be true if Europe and Japan do better. For now, investors should continue to focus on high-quality stocks, especially those that cater to consumers. Now let’s take another look at our new Buy List.

The 2015 Buy List

Last week, I unveiled the 2015 Buy List. Here it is again:

AFLAC ($AFL)
Ball Corp. ($BLL)
Bed Bath & Beyond ($BBBY)
Cognizant Technology Solutions ($CTSH)
CR Bard ($BCR)
eBay ($EBAY)
Express Scripts ($ESRX)
Fiserv ($FISV)
Ford Motor ($F)
Hormel Foods ($HRL)
Microsoft ($MSFT)
Moog ($MOG-A)
Oracle ($ORCL)
Qualcomm ($QCOM)
Ross Stores ($ROST)
Signature Bank ($SBNY)
Snap-on ($SNA)
Stryker ($SYK)
Wabtec ($WAB)
Wells Fargo ($WFC)

The five new buys are Ball Corp. ($BLL), Hormel Foods ($HRL), Signature Bank ($SBNY), Snap-on ($SNA) and Wabtec ($WAB). Here’s a brief description of each.

Ball Corp. ($BLL) is the largest producer of recyclable beverage cans in the world. The company started out making mason jars. While they’re no longer in that business today, Ball makes billions of recyclable metal containers. Based in Broomfield, Colorado, Ball also has an aerospace unit that makes parts for NASA. If you like boring and profitable, you’ll like Ball.

I always think of Hormel Foods ($HRL) as the Spam company. Not as in unwanted emails, but Spam the lunch meat. But Hormel is so much more. They own a bunch of food brands including Dinty Moore stew and Country Crock. More than 30 Hormel bands are ranked #1 or #2 in their markets. Last month, Hormel raised their dividend by 25%. It was their 49th consecutive annual dividend increase. Not bad for lunch meat.

Signature Bank ($SBNY) may be the quietest success story in banking. Signature is never in the news and that’s how they like it. But their performance tells the story. Signature’s loan delinquency rate is about one-tenth of the industry average. They also keep a tight rein on overhead which runs about 40% below industry average. Without anyone noticing, Signature has shaken up traditional banking.

Snap-on ($SNA) is a maker of high-end hand tools and power tools. They also make lots of machines for car repair like hydraulic lifts and tire changers. Snap-on makes products for the marine, rail and aviation industries. Last month, Snap-on raised their dividend by 20.5%. The company is based in Kenosha, WI (birthplace of Orson Welles), and they employ 11,500 people.

Wabtec ($WAB) was formed by the merger of Westinghouse Air Brake and MotivePower in 1999. The company traces its roots back to 1869 when George Westinghouse invented the railway airbrake. (In last week’s issue, I listed the stock as Westinghouse Air Brake Technologies, but Wabtec is the official name.) Wabtec makes locomotives, brakes and other parts for the freight and passenger rail industries. Business is going well; Wabtec recently raised guidance and their backlog is at a record. Barron’s notes that Wabtec is the only stock on any U.S. exchange that’s risen in each of the last 13 years.

In next week’s issue, I’ll give you the Buy Below prices for our new buys. Now here are some updates for our current Buy List.

Buy List Updates

In the middle of the day on Tuesday, Stryker ($SYK) spiked higher on news that it’s planning a takeover of Smith & Nephew ($SNN). I’m not sure why anyone would be surprised by this but the stock gapped up to a new high. It seems like this deal has been in the works for a long time. All we’re waiting for now is an official announcement. The fact is that for anyone in medical devices, it’s in your interest to find a tax inversion. Fast. Shares of SNN gained 9.37% on Tuesday. Stryker is a buy up to $98 per share.

Our big winner this week was Express Scripts ($ESRX). The catalyst for the big move was the company’s decision to go with AbbVie’s ($ABBV) hepatitis C treatment over the one from Gilead Sciences ($GILD), a former Buy List stock by the way. The move smacked GILD’s stock hard. Some analysts think this could start a price war which would certainly help ESRX. Express Scripts remains a solid buy up to $87 per share.

I also want to bump up a few of our Buy Below prices before the end of the year. This week, I’m raising Bed Bath & Beyond ($BBBY) to $77 per share. I’m lifting Fiserv’s ($FISV) Buy Below by $3 to $75 per share. I’m also raising Cognizant Technologies Solutions ($CTSH) to $56 per share, Qualcomm ($QCOM) to $76 per share and Ross Stores ($ROST) to $94 per share.

Let me add one more note about next year’s Buy List. We still don’t know the details yet, but eBay ($EBAY) hopes to spinoff PayPal in the second half of 2015. When that happens, PayPal will join the Buy List. This is how it’s worked with previous mergers or spinoffs. I promise to have full details once that happens.

That’s all for now. The 2014 trading year comes to an end on Wednesday. The market will be closed on Thursday, but the 2015 trading year commences Friday morning. Be sure to keep checking the blog for daily updates. I’ll send out the next issue of CWS Market Review on New Year’s Day. I’ll have performance details for 2014, and I’ll list the buy prices for the 2015 Buy List. I’m very excited for another profitable year. Thanks for your support!

– Eddy

Posted by Eddy Elfenbein on December 26th, 2014 at 7:08 am

The information in this blog post represents my own opinions and does not contain a recommendation for any particular security or investment. I or my affiliates may hold positions or other interests in securities mentioned in the Blog, please see my Disclaimer page for my full disclaimer.