In the past couple of weeks, I’ve written about obstacles that face investors preparing for re...
5 Defensive Stocks to Weather a Future Correction
08/31/2018 5:00 am EST
The market has been remarkably resilient; most U.S. companies are doing well, and the S&P 500 appears well on its way to earning $162 this year up from $133 in 2017 — aided, of course, by the tax cuts, explains Hilary Kramer, contributing editor to StockInvestor.
However, I think what will finally be the downfall of this bull market is an adjustment for earnings estimates for 2019. The estimate of $178 seems a bit too high for the S&P 500 in light of the slower economic growth abroad, along with some pockets of weakness in the United States such as auto and housing, combined with the lower commodity prices.
If we see the earnings estimates for the S&P 500 come in around $170, while at the same time the Fed keeps hiking rates, then a 10% to 15% correction is possible. So investors need to think in terms of defense! I have five names that could survive the pullback:
Alaska Airlines (ALK)
The stock is down nearly 40% from its March 2017 high, when it traded over $100. Three issues drove the decline, including higher fuel prices, increased industry capacity and ALK having trouble integrating the Virgin America acquisition.
However, the outlook for all three challenges appears to be improving. Fuel prices are leveling, capacity additions are moderating and ALK costs from the acquisition are moderating, with cost per available seat miles only 2% last quarter. These factors should drive per-share earnings improvement from $4.15 this year to over $6.00 next year. The stock is cheap at 10X forward estimates.
Casey’s General Stores (CASY)
Here is great one for an aging bull market. It is a chain of convenience stores that focus on small towns in the Midwest. The stores are very popular with their hot food offerings, especially pizza.
There also is plenty of room for more square footage, as the company starts expanding into somewhat larger metro areas from their traditional 5,000 population or less market niche to 20,000 or less market size. Earnings were held back recently by narrowing gasoline margins, but comparisons going forward are easy and margins should improve.
At 24X current fiscal year earnings, with stable earnings per share (EPS) growth of 8% to 10%, this stock appears to be an excellent buy-and-hold pick for risk-averse growth investors.
The company is part of insurance royalty, born of the combination of Chubb, known for its fairness and excellent customer service, and ACE Limited, which was run by Evan Greenberg, son of the legendary Hank Greenberg of American International Group (AIG). Evan Greenberg now runs the combined company.
The stock is down 15% from this year’s high on above average catastrophic losses. A rally in the stock was interrupted by the recent fires in Redding, California. However. there is good value in the stock at 1.25 times book value, and if the current hurricane season is just moderate in strength, the stock should do well.
Magic Software (MGIC)
This Israel-based software company sells for only 14X this year’s estimates and has net cash equal to 15% of market value. Strong demand for the company’s middleware integration software, which helps enable cloud computing, is driving strong revenue growth.
Revenues were up 7% in the second quarter despite currency headwinds, Organic growth for the year will be 10% to 14%. Further growth could come from acquisitions, or the company itself could be acquired.
The market is acting as if the advertising agency industry is going away, with the shares selling at 12X this year’s earnings and a 3.5% dividend yield. However, the company still has positive organic sales growth, and the depth and talent of 80,000 professional cannot simply be replaced by Google (GOOGL) and Facebook (FB).
Given the favorable valuation, there is a good deal of margin for error in the stock, and even modest growth going forward should produce strong total returns.
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