Stocks closed with mixed results yesterday as investors braced for a big week of earnings. Bond yields retreated as bond traders covered shorts, clearing the way for growth shares to outshine.
Growing season? It is earnings season. I know, it always seems like we are in earnings season. While I will argue that earnings are always a priority when it comes to buying stocks, some earnings seasons are less critical than others. The most obvious difference is when things are smooth sailing versus… er, not-so-smooth sailing. Can you guess what sailing conditions we are in at current? If you said “choppy,” you get the prize. I am sure that you have caught one or two of those talking heads on the financial news stations talking about earnings growth. You, see its not just good enough to have a good earnings quarter. You also have to have another good quarter next time around, and it has to be even better, and so on… into perpetuity. Perpetuity is a real word and it holds a lot of significance in finance, because we literally take it… um, literally. So, if you want your company’s stock to be loved by one and all, you as a manager, have to convince investors that you can continue to improve as well as or better FOREVER, AND EVER! Seems simple, right? Let’s look at three stocks to understand this concept. Let’s go with Apple, Ford Motor Company, and Exxon Mobil.
Apple is of course, a poster child for growth stocks. A growth stock is supposed to consistently grow earnings… in perpetuity. Because investors believe that Apple can achieve that growth through innovations, good management, and fantastic marketing, investors are willing to pay big premiums for the stock. In contrast, is Ford Motor Company. It is a solid company with great products, good management, and great marketing with pickup truck commercials that tug on the heartstrings of all our inner cowboys. We love it, no matter where you live in the world or what your profession. Everyone knows about the F-150 truck! Good job, Ford. What about earnings growth there? Well, no one expects too much out of them because there are only so many cars in the world, and when they are built tough (hm, maybe that’s competitor Ram’s tagline), they tend to last forever, so not too much turnover like, say an iPhone, which is good for about a week after you buy it, and you are already waiting for the next version. Ok, so in the case of Ford, we are not expecting steep earnings growth, but investors do expect stable growth… forever… and maybe some dividends to make up for its lack of growth. Are you following me? Good. We are onto our final example, Exxon Mobile. Another fine company but with altogether different challenges than the other two. It is subject to all sorts of pressures. Sure, Exxon has innovation, but it is also in the risk business. It explores for new sources of oil, which is sometimes successful and sometimes, not so much. It is subject to wild price swings in its primary product. Do I need to remind you that crude oil futures were -$14 / barrel a few years back and that it is now $85 / barrel? Do I need to remind you that oil prices are highly influenced by a cartel? OPEC, who is not necessarily concerned with Exxon’s investors. Oh, and there are currency fluctuations to contend with. Did you know that most of the world’s oil is traded in US dollars? As that fluctuates… and it does… well, you know where this is going. Ok, so Exxon has been in business for a long time, and it knows how to handle the volatility. Unfortunately, consistency in earnings for Exxon is tough to achieve. Sometimes there is growth and in other times there is not. The one thing Exxon has is, cash flow, lots of cash flow, and it uses that cash flow to compensate investors with significant dividends to entice them to accept the volatility in earnings.
So, we have three different companies with three very different value propositions to investors. We have Apple, whose investors expect growth forever, we have Ford, whose investors want consistent earnings (no surprises, please) with modest dividends, and finally we have Exxon Mobile, whose investors are willing to deal with volatile earnings in order to get consistently growing dividends. Apple has a PE multiple of 29.08x, Ford has a PE multiple of 5.34x, and Exxon Mobile has a PE multiple of 8.68x. As long as those three companies continue to do what their investors expect from them, those multiples will stay stable, or possibly go higher. Ok, check out these two charts of Apple (on the top) and Ford (on the bottom), side by side. You can see the clear difference between historical EPS and what investors might expect in the future. To be clear, one is not necessarily better than the other… as long as they do what is expected of them… forever.
WHAT’S GOING ON THIS MORNING
The Coca-Cola Co (KO) shares are higher by +2.27% in the premarket after the company announced that it beat EPS and Revenue estimates by +6.50% and +4.68% respectively. The company also boosted its full year revenue guidance and stated that consumers’ acceptance of higher prices helped (you are welcome, Coke ). Dividend yield: 3.40%. Potential average analyst target upside: +22.8%.
General Electric (GE) shares are higher by +5.34% after the company announced a wide EPS beat of +45.87%. The company also raised its full-year cash flow and earnings guidance amidst strong demand for Jet Engines. Dividend yield: 0.29%. Potential average analyst target upside: +21.0%.
Also, this morning: Danaher, Dow, GM, Ares Capital, 3M, and Verizon all beat on EPS and Revenues while Pulte, Xerox, Halliburton, Kimberly-Clark, ADM, and Corning disappointed.
YESTERDAY’S MARKETS
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