The Weekly Summary
Welcome to the New Year! As we begin 2018 we want to first say the capital markets will not always be this friendly to us. We are up against too many horses and mysterious dark forces. So let’s all make sure we enjoy these times. The recent and current times will be remembered as the good old days of the greatest bull market ever recorded in human history.
You have probably noticed that we at The Bull Market Report don’t make prognostications very often. People ask us all the time where the market is going and whether this bull market will come crashing down, and whether this is the time to sell, sell, sell. The problem is that we are in the “no one knows” camp. Anyone who predicts future stock price moves is just guessing. Now, we look at the numbers and base our research and comments on how we see things economically, for the country, the world and for the individual company we are writing about. But if you think we can predict the day the bull market ends, you are mistaken. No one can.
So, what does one do? Well, we have said many times this past year, if you are nervous, then take some profits off the table. Put them in the high yield sector. We have two fabulous portfolios of companies that are stable and are paying strong dividends, to the tune of 6-8% and higher. We, personally like equities and we like the economic numbers that this country is producing, so we wish to stay invested in the companies that are thriving from this strong economy. If and when things turn down, we’ll give you our opinion and you can make those important decisions as they apply to your own personal portfolio, and the financial health of you and your family.
Now to the investing. We read and review countless expert stock market outlooks for you on the topic of what will happen in 2018. While views differ on various things, and nobody has a crystal ball, there is one prevalent belief that institutional investors are positioning for. Essentially everybody is saying that international stocks are the place to be when analyzing the valuations of the marketplace. Now look we are not going to recommend purchase of China Construction Bank or anything of the sort. We instead favor the plenty of great US companies with international revenues. This year keep an eye out in particular for multi-national stocks. Fundamentally, they are positioned to outperform.
No matter what is happening out there, there is always a bull market here at The Bull Market Report! This week we highlight: Microsoft, Google, Amazon, Facebook, Carlyle Group, and Mazor Robotics.
BMR Companies & Commentary
Microsoft (MSFT: $88, up 3%)
One of the biggest things happening right now is US tax reform. Microsoft is sitting front and center. While a lower cash repatriation tax rate in the GOP's tax-reform bill may encourage large tech companies to bring home large amounts of cash currently held abroad, it is unclear how they may deploy those assets. Many worry it will not be used for new investments or higher wages, but simply returned to shareholders. We’re not worrying one bit. We expect the majority of it to indeed go to shareholders, that’s us!
While there has also been a sense that the surge in repatriated assets could spark an M&A boom, these tech companies have hardly been shy about using low interest rates and strong cash flows to fund acquisitions. Some $630 billion is held by the nine tech companies with the largest overseas holdings. Accordingly, we think the freed-up cash is likely to flow toward stock buybacks, paying down debt, and dividends.
For Microsoft, they have over $130 billion of cash parked internationally. After paying the 15.5% tax or $20 billion tax bill, we believe Microsoft will proceed to steadily hike the current dividend rather than pay a one-time special dividend that could be as much as $3. Either way, this is good news for income-oriented equity investors.
BMR Take: Microsoft is currently paying a $1.67 dividend. The consensus outlook calls for $1.81 in 2019 and $1.95 in 2020. This dividend action alone is likely to keep pushing the stock upward. Microsoft remains a core holding for us.
Microsoft was given a new $100 price target on by analysts at Royal Bank of Canada and by Oppenheimer Holdings last week. We have a Target of $92 on the stock and can’t WAIT to raise the Target to $101 when it hits $92.
Not a bad 6-months chart, don’t you think?
Where do you think Microsoft is heading in the next six?
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Google (GOOG: $1,102, up 5%)
China is the largest consumer market of any country in the world: With 1.4 billion citizens and counting, it has 19% of the global population. This has drawn the attention of some of the world's largest companies seeking to capitalize on its rich opportunities. Even more enticing are its 750 million internet users, many of whom are part of the country's emerging middle class.
A number of U.S. technology companies have been effectively shut out of China's growing internet market, including Google. Chinese regulators took to the podium at the Internet Governance Forum in Geneva recently and said Google would now be welcome. This is fabulous news for the company.
After four years there, Google announced in 2010 that it would no longer censor its Chinese search site, effectively banning itself from the country. This self-imposed exile followed what the company called a "highly sophisticated" hack, which resulted in the theft of intellectual property and attempts to gain access to gmail accounts belonging to human-rights activists.
The changing outlook for growth in China could be huge for Google.
BMR Take: Google’s EPS outlook is $32 for 2017 heading to $41.50 in 2018 and $48 in 2019. This is 29% and 17% EPS growth, respectively, without any material surge in business in China. If we get the upside from China, look out. The runway for earnings growth could be longer than the Great Wall of China.
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Amazon (AMZN: $1,229, up 5%)
At this week's Consumer Electronics Show, we're going to see the battle between Amazon Alexa and Google Assistant kick in to high gear.
Last year, Alexa was the clear winner of CES, with companies like Ford, Huawei, and LG agreeing to integrate their products with Amazon's virtual assistant. Since then, Alexa has only gotten bigger — over the holiday season, Amazon says that it sold "tens of millions" of Alexa-enabled products, led by its own Amazon Echo Dot.
This year, Google is striking back. While the search giant's Google Home speakers still lag the Amazon Echo in terms of market share, it's picking up momentum: Google claims that it sold over 6.7 million Home and Home Mini speakers over the holiday shopping season.
You can expect both companies to make announcements about new partners, new products, and new ways to use their respective voice agents. LG has already announced that it will be showing off new TVs with Google Assistant built in; a company called Vuzix will be debuting a pair of Alexa-powered smart glasses.
Amazon got in on the smart speaker market early, and has moved quickly to ensure its stays out in front. By most measures, the Amazon Echo is dominating the smart speaker market. This could be a great driver of future earnings growth so we are watching closely.
BMR Take: This week we wanted to present a bit of a different perspective on Amazon. The view is Mark Cuban’s. He says you can’t even value Amazon on revenue or earnings like other publicly traded stocks. Essentially Amazon is one massive start-up with scale. You know when they bought Whole Foods the market cap of Amazon went up so much that day the increased value covered the purchase price of Whole Foods. They literally bought Whole Foods with no capital. So you see this innovation machine can’t even be analyzed like other businesses out there. You just have to own it. It’s the innovation machine that will lead the way wherever technology and the world go. The Amazon Dot is just the latest example of innovation.
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Facebook (FB: $187, up 6%)
The company's founder and CEO Mark Zuckerberg posted his annual personal memo on Thursday — mostly about being a better CEO — but one throwaway reference to cryptocurrency technology captured everyone’s attention.
Writing about how the last year saw many people lose trust in social media and tech companies, Zuckerberg noted the growing importance of de-centralizing forces, like the rise of cryptocurrency. He said, "There are important counter-trends to this — like encryption and cryptocurrency — that take power from centralized systems and put it back into people's hands. But they come with the risk of being harder to control. I'm interested to go deeper and study the positive and negative aspects of these technologies, and how best to use them in our services."
Zuckerberg was referring to bitcoin. It is telling that Zuckerberg specifically called out cryptocurrency in his annual new year's resolution post. When you look at the broader landscape of social media companies and messaging platforms, it makes perfect sense that Facebook would be paying very close attention to such technology.
First, consider that nearly 100% of Facebook's revenue comes from online advertising. This figure shouldn't be all that surprising — the social network has long been one of the single most dominant players in digital advertising. Still, the company would be foolish not to pursue other meaningful revenue sources long-term. Adopting some kind of cryptocurrency plan could be one way to do that. But rather than buying into one that's already established, like bitcoin, what might be more likely is Facebook creating its own. Who better to pull off a legit crypto currency than Facebook?
BMR Take: Facebook is going to generate about $6 of EPS this year. We are looking at EPS growing to $10 by 2020. Layer into this the possibilities of a proprietary Facebook coin and look out, this could be a stock set to surge even more than it already has on bitcoin mania.
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The Carlyle Group (CG: $24, up 5%)
Carlyle Group has brought on a new leader of its U.S. capital markets division. Matthew Savino was named managing director and head of U.S. capital markets. It is a new position. Mr. Savino works with Carlyle's U.S.-based corporate private equity executives on publicly syndicated and privately placed loan, bond and equity offerings for portfolio companies. Mr. Savino was a managing director and global head of alternatives sourcing at BlackRock.
Why does this matter? Private equity is all about sourcing deals. That is the business model. Exclusive deal sourcing is the key to the fabulous earnings we see. And getting this done is all about good people. Let’s review a few of the heavy hitters on the board. This company is stacked with talent.
Mr. D’Aniello is a founder and Chairman Emeritus. Prior to forming Carlyle in 1987, Mr. D'Aniello was a Vice President for Finance and Development at Marriott Corporation where he was responsible for valuation of all major mergers, acquisition, divestitures, debt and equity offerings, and project financings.
Mr. Conway is a founder and Co-Executive Chairman and is also the firm’s Co-Chief Investment Officer. Prior to co-founding Carlyle in 1987, Mr. Conway worked at MCI Communications from 1981 to 1987, serving as Chief Financial Officer.
Kewsong Lee is a Co-Chief Executive Officer. Mr. Lee also serves as the Head of the Global Credit segment and is Chairman of the Executive Group. Prior to joining Carlyle in 2013, Mr. Lee was a partner at Warburg Pincus and a member of the firm’s Executive Management Group.
Ms. Lawton Fitt is a member of the Board of Directors. Ms. Fitt is currently a director of Ciena Corporation and The Progressive Corporation. She was an investment banker with Goldman Sachs, where she was a partner and a managing director. She retired from Goldman Sachs in 2002. Ms. Fitt is a former director of ARM Holdings and Thomson Reuters
Tony Welters is a member of the Board of Directors. Mr. Welters is Executive Chairman of the Black Ivy Group. He recently retired as Senior Adviser to the Office of the CEO of UnitedHealth Group having served in such position since 2014.
BMR Take: With the S&P 500 index trading at 20x earnings, we just can't explain why Carlyle trades at 8x earnings. There is no reason for such a massive discount. This stock needs to be a lot higher. Others overlooking the stock creates your opportunity. If we had a category for stock of the year (2018), this one would be at the top of the list. The consensus calls for nearly $3.00 of EPS this year! This company is way undervalued. Repeat – WAY UNDERVALUED.
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Mazor Robotics (MZOR: $56, up 10%)
Mazor Robotics is a pioneer and a leader in the field of surgical robotic systems. In September the company announced CE Mark approval for its Mazor X Surgical Assurance Platform. The CE Mark allows Mazor and its commercial partner, Medtronic, to market the Mazor X in the European Union, as well as other countries that recognize the CE Mark.
This is big stuff and we saw the benefits last quarter when Medtronic essentially sold almost all of the company’s new orders.
Receipt of the CE Mark is an important step in the plan to expand the patient, surgeon and hospital benefits of the Mazor X Surgical Assurance Platform to the European market. The commercial partner for the Mazor X, Medtronic, will be responsible for marketing and selling the system in Europe and they have a great footprint and brand to do so.
BMR Take: Mazor shares increased 150% in 2017 and we think the momentum is going to continue. The company is coming off of a record 3Q17 earnings where it was announced that orders were received for 22 systems comprised of 19 Mazor X and 3 Renaissance. Medtronic was responsible for 11 of the 19 Mazor X purchase orders, which is only the second phase of the commercial agreement, where additional orders are in the pipeline to occur. There is just clear surgeon interest in everything Mazor is doing. Why? When you step back and think of it, this is the start of artificial intelligence and robots beginning to increase productivity. Mazor is at the center of the action in the medical technology sector where the advancement will change lives, and the economic opportunity for investors will be lucrative.
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Economic Calendar
Consumer Credit
Monday, January 8th, 3:00 PM
Period: November
Consensus: $18.5 billion
Prior: $20.5 billion
JOLTS Job Openings
Tuesday, January 9th, 10:00 AM
Period: November
Consensus: 6,025,000
Prior: 5,996,000
Wholesale Inventories SA M/M
Wednesday, January 10th, 10:00 AM
Period: NOV
Consensus: 0.70%
Prior: 0.70%
PPI ex-Food & Energy
Thursday, January 11th, 8:30 AM
Period: December
Consensus: 2.5%
Prior: 2.4%
CPI ex-Food & Energy
Friday, January 12th, 8:30 AM
Period: December
Consensus: 1.7%
Prior: 1.7%
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Oil Holds Near Two-Year High. US Shatters Production Record
The Permian Basin* has shattered its 1973 record to produce 815 million barrels of oil during 2017, or more than 2.25 million barrels a day. The previous peak of 790 million barrels was set 44 years ago. The huge oil field is projected to push total U.S. oil output to a new all-time high by the end of this year. Some analysts see total US production exceeding 10.5 million barrels per day by the end of 2018.
*The Permian Basin is located in the western part of Texas and the southeastern part of New Mexico. It reaches from just south of Lubbock, to just south of Midland and Odessa, extending westward into the southeastern part of New Mexico.
Oil prices are expected to keep rising in 2018 on the back of OPEC-led production cuts and a growing global economy. Most analysts see oil trading in the high 50s for 2018.
The U.S. total rig count will reach above 1,000 rigs in 2018, for the first time since 2015, according to one oil analyst. Rig counts ranged from 660 to 960 in 2017. The current level is 925.
BMR Take: The best way to take advantage of the robust Energy market is with our portfolio item, iShares US Energy ETF (IYE: $41, up 4%). We’ve had this stock in our portfolio since September and it is up 11%, but we feel it has a long way to go higher. It’s a small fund, with just $1 billion in assets, paying a 2.7% dividend, and it is diversified nicely among many strong Energy companies. Exxon is #1, with 23% of the portfolio invested in this global leader. Chevron is #2 at 15%, Schlumberger is at 6%, ConocoPhillips is at 4%, and other companies, like Valero and Kinder Morgan are held as well. Our Target is $44, but we can see this one hitting $50 in 2018 if crude holds or goes higher than its current level of $60.
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Some Target Updates
Visa (V: $119, up 4%) had its price target raised by analysts at Susquehanna Bancshares from $126to $148 last week. Our Target is $123, and we can’t wait to raise our Target into the $130s. The way the market is going, it might just hit our Target this week.
Apple (AAPL: $175, up 4%) was given a new $180.00 price target on by analysts at Rosenblatt Securities. We think this firm has its head in the sand. Our Target is $194 which is when the stock will hit $1 trillion in market cap.
Omega Healthcare Investors (OHI: $27, down 2%) Director Bernard J. Korman bought 100,000 shares stock just before Christmas. The shares were bought at an average cost of $26.90 per share, for a total transaction of $2,700,000. Following the transaction, the director now owns 900,000 shares, valued at $24 million.
We always like to see these types of transactions – management buying stock with their own money. The stock is paying a 9.7% dividend. It is below our Sell Price by $1, but we aren’t going to remove the stock just yet. With their more than 900 nursing facilities and assisted living facilities in the US and UK, we believe the firm to be solid as a rock. Worried about the bull market ending? (we aren’t….), then lighten up some of your portfolio and buy some Omega. You’ll be glad you did.
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The High Yield Corner
By Michael Foster
We saw some significant macroeconomic news stories over the last couple of weeks that are very important for high yield. They’re important because they’re easily misunderstood, but not because they’ll have a huge impact on high yield assets.
Quite the opposite, in fact. What is happening right now is a blip that means little for the high yield world, although it may be a bigger deal for some pockets (most notably Energy and Utilities). Beyond that, however, what’s happening right now really doesn’t matter for high yield.
What are we talking about?
The first is the polar vortex. If you’re on the east coast or in the midwest, you know what we’re talking about. We were working in New York City for the 2013-2014 polar vortex, and we must admit we are still a little traumatized by the experience. The biting wind, the endless cold, the layers of snow covering more layers of snow was enough to make us leave NYC. We still feel bad for friends who were stuck at banks and hedge funds, unable to leave the Big Frozen Apple.
Beyond this malaise with the cold, the broader economy was suffering. The American economy saw a 0.1% GDP growth rate, and the S&P 500 barely ended the quarter in the green (January of that year saw a 3.6% decline in the stock market). The polar vortex put a freezing chill on the 30% S&P 500 return that 2013 enjoyed.
It seems like history is repeating itself. After the S&P 500 rose 22% in 2017, we’re suddenly hit with a cold snap to start 2018. The stock market hasn’t responded to this yet, and we doubt it will. Enough people remember 2014 to know that a sudden freeze isn’t enough to hit stocks.
However, the high yield market is a lot more volatile and easily scared. We’ve already seen at the retail level, fund outflows at several major high yield ETFs in the first few days of January. And many popular high yield assets are starting 2018 in the red.
For instance, look at REITs. Omega Healthcare Investors (OHI: $27, down 2%), Government Properties Income Trust (GOV: $17.86, down 4%), Digital Realty Trust (DLR: $112, down 1%), and Apollo Commercial Real Estate (ARI: $18.30, down 1%) are all weak in the first week of January. We may see more declines in the future as retail investors remember 2014 and pull out—while also forgetting that markets adapt and counterbalance recent tendencies. Trends last only until they don’t.
So much for the first big trend hitting high yield—it’s definitely worth ignoring, or going against. As these REITs slip on cold weather panic, buying opportunities become bigger as yields go higher.
The second big news story for high yield is much, much more obscure, but is arguably more important. Morgan Stanley quietly recommended to clients that investors avoid junk bonds. Here’s what he wrote:
"While the tax cuts just enacted in the U.S. may lead to better growth in the short term, they may also bring forth the excesses we typically see before a recession—which is something credit markets figure out before equities. We recently took our remaining high yield positions to zero as we prepare for deterioration in lower-quality earnings in the U.S. led by lower operating margins.”
In other words, tax cuts cause short-term gains but are long-term negative for economic growth. This is Wall Street and mainstream economic orthodoxy (Goldman Sachs said something similar nearly a year ago when Trump’s tax cut plans were first getting started). That long-term negative is really, really bad for high yield bonds. Why? Because short-term economic growth encourages bad businesses to expand really fast, which means they will go bankrupt faster and at a bigger scale when the economy reverses course and starts to crash.
Morgan Stanley rightly observes this conventional fact about financial markets, but they wrongly assert that it’s a risk that is around the corner.
One of the big problems for macroeconomic analysts is understanding that the 2007-2009 recession was so deep, and the recovery so slow, that the business cycle and the credit cycle are prolongated. Instead of the 7-10 year business cycles of the 80's, 90's, and early 2000’s, we’re now facing a new longer cycle that will be far longer than a decade long.
So Morgan Stanley is right to suggest that we’ll see a boom in high yield credit now only to see a big crash later. But they’re wrong to suggest that big crash is coming this year or even next year.
How long will it take for that big crash? Honestly, it’s too early to tell. It may happen in 2020, or it could happen much later—say 2025 or beyond. There’s still damage to repair from 2007-2009 before we get to bubbly territory.
That means pulling out of high yield right now is premature. Sure, you can pull out now to avoid a big loss in 5 years, but you’ll also miss out on 20% gains in the next year.
That’s why AllianzGI Equity & Convertible (NIE: $22, up 2%) and PIMCO Dynamic Income Fund (PDI: $30, flat) remain holds for now, but investors need to prepare to sell in the next couple of years. And if the high yield market reacts to Morgan Stanley and sells off in the next month, it might even be a good time to buy more now and wait for the market to truly look, feel, and act like a bubble.
So far so good for high yield, despite growing misplaced fears. In fact, those misplaced fears are making me feel better about high yield, because it proves we haven’t hit irrational exuberance territory yet. And when that comes, I’ll quickly change my tune.
Good Investing,
Todd Shaver
Founder and CEO
The Bull Market Report
Since 1998