The Week Ahead – April 25, 2022

Where did we leave off Friday?

The Dow suffered its worst beating since October 2020 last week, capping a fourth straight weekly decline. Investors looked past mostly positive earnings reports on the near certainty that the Fed will raise interest rates by at least a half point at its meeting next month. Friday’s ~1,000 point drop in the Dow followed a speech by Jerome Powell that signaled support for a 50-basis point rate. Rates jumped on Powell’s remarks before the benchmark 10-year yield eased slightly to about 2.9%.

The Dow finished down 1.9% in its ninth losing week of the last eleven, while the S&P 500 fell 2.8% and the Nasdaq sank 3.8%. Markets continue to drive lower valuation and a continued Growth to Value rotation. Equities are being stress-tested by surging bond yields. With consumer prices at a multi-decade high, we’re seeing tremendous stress on consumers and the economy as a whole.

Is 75 the new 50?

Seventy-five basis points is the new 50 basis points. The Federal Reserve is hawkish and continues to ramp up market expectations for big interest rate hikes. Seventy-five bps would have been considered unthinkable just two months ago. Which just goes to show you – be careful who you listen to. If we hike the fed funds rate by 75 basis points in June and July, after a 50-basis point rise in May, That would bring the rate up to 2.25%. Consider this a phenomenal amount of tightening given that the Fed was still easing by buying assets in March.

Powell has said that there was some merit in front-loading tightening with the current upside risks to inflation and a historically tight labor market. In fed funds futures, the market is now pricing in about 270 basis points of tightening for 2022, topping the 250 seen in 1994, with expectations now for the rate to hit 3% by March 2023.

Treasury’s continue to selloff.

The selloff in Treasury bonds accelerated as expectations for even more hawkish policy rose. The 2s10s curve flattened.

Recession Risk? I don’t think so… but I’ve been calling stagflation for nearly a year now.

Three things to consider:1) equities are increasingly fairly valued and serve as an inflation hedge compared to bonds; 2) monetary conditions are very loose; 3) we tend to get recessions six to nine months after 3-month money inverts relative to 10-year.

The 10-year Treasury yield)minus the 3-month Treasury bill yield has inverted before every recession since the mid-1950s. That spread is now around 200 basis points

I’ve got a case of the Mondays.

This week we will see earnings reports from the four biggest U.S. companies by market cap: Apple, Microsoft, Amazon and Google. The earnings season has been balanced between strong results like Tesla and major disappointments like Netflix.  Everyone knows I DO NOT believe in Tesla long-term. I believe we will see it’s market share and crumble in a wake of competition – not necessarily innovation. I do think, however, that SpaceX, leveraging the power of Starlink will be huge. High-speed space-based internet. I like that. The economic calendar includes updates on new home sales, durable goods orders, pending home sales, GDP, and trade balance.

Earnings 

Monday, April 25
Coca-Cola (KO) and Activision Blizzard (ATVI)

Coke is a bit overvalued. I like it in the 50s. But at $67 and 27x earnings – not so much. Until shares of Coke come back down to Earth, we are sitting on the sidelines for now. It is, however, a recession proof stock and a Dividend Aristocrat that as of 2022 has pushed through payout increases during the past 60 consecutive years.

One of the reasons why shares of KO have performed so well over the past year is due to the firm’s ability to generate substantial cash flows in almost any operating environment. In 2021, Coca-Cola generated over $12 billion in net operating cash flow, while spending under $1.4 billion on its CAPEX. Coca-Cola spent $7billion covering its dividend obligations in 2021 and an additional $0.1 billion buying back its stock, activities that were fully covered by its free cash flows.

Coke’s Profitability Profile

ATVI is an attractive merger arbitrage opportunity with an 10% to 15% upside within 14 months. Remember that MSFT offered $95 per share back on January 2022.

Tuesday, April 26
Centene (CNC), Alphabet (GOOG), General Motors (GM), Chipotle (CMG), Microsoft (MSFT), UPS (UPS), PepsiCo (PEP), General Electric (GE) and Visa (V)

UPS continues to deliver for shareholders, and I think the recent pullback since the end of March is a buying opportunity. $190 back to $230 could net a tidy 20% in less than twelve months. From a financial perspective, I believe the valuation premium over FedEx is warranted, given the stronger moat the company has, which is reflected in higher returns on invested capital. During the pandemic growth accelerated to more than 24%, but has since come back down to ~11% as the economy reopened. Increased revenue, corporate restructuring, and operating leverage have resulted in improved profitability. Gross margins and operating margins are currently significantly above their historical averages.

Visa was one of my biggest winners between 2012 and 2019. I made nearly 4X my initial investment during that period. But perhaps I sold too early? The stock continued to go from $160 to north of $200. Visa dominates the credit card market with a 53.9% market share of purchase volume globally. The company has introduced a range of Crypto services and partnered with leading Crypto platforms such as Coinbase. Given its commitment to dividend growth, shares can offer extraordinary dividend yields, even in the double digits, if you hold them for long enough.

Wednesday, April 27
Boeing (BA), Humana (HUM), T-Mobile US (TMUS), Ford Motor (F), Meta Platforms (FB), Kraft Heinz (KHC), and Amgen (AMGN).

I am in KHC. The stock is recession-proof, inflation proof and has 30% plus upside. The consumer staples sector has historically been a strong place to be in times of economic recession. My favorite pick within the sector is Kraft Heinz Company. Kraft Heinz is protected from inflation due to its pricing power within the packaged food industry. The stock did flash signs of a bullish golden cross technical setup on the company’s chart. You can see the cross right before the month of March 2022 in the chart below.

A golden cross is a technical chart pattern indicating the potential for a major rally. The golden cross appears on a chart when a stock’s short-term moving average crosses above its long-term moving average. The golden cross can be contrasted with a death cross indicating a bearish price movement.

Thursday, April 28
Twitter (TWTR), Comcast (CMCSA), Merck (MRK), Caterpillar (CAT), Northrop Grumman (NOC), Amazon (NASDAQ:AMZN), Apple (AAPL), Intel (INTC), Altria (MO), Domino’s Pizza (NYSE:DPZ) and PayPal (PYPL)

We made excellent money in Caterpillar between 2020 and 2021. It was part of my POTUS portfolio. Caterpillar’s shares have done better than the broader market in 2022 year-to-date, as investors see CAT as a beneficiary of rising commodity prices. CAT may fall short of market expectations with its Q1 2022 earnings, taking into account supply chain challenges and elevated distribution costs. I view the stock as  a Hold; I don’t believe that the current upside potential for its shares is not sufficiently appealing.

Although Apple Inc. is susceptible to general economic conditions, these temporary disruptions are outweighed by AAPL’s brand, cash flows, and financial position. The market selloff offers a buying opportunity for long-term investors. Apple’s investment fund is $200 billion last I checked. Apple’s brand will outlive the challenges of inflation.

Northrop Grumman is benefiting from a world with increasing geopolitical tensions. Free cash flow is high and further accelerating and used to boost buybacks and dividends. NOC is a dividend growth stock and always worth the look. The company is in a good spot to offset rising inflation due to the structure and nature of its contracts as well as its position in the (NATO) defense supply chain. For those that know their history, eve in the 1970s, the company not only protected investors but it generated a lot of wealth for everyone lucky enough to hold shares back then.

Friday, April 29
AbbVie (ABBV), Bristol-Myers Squibb Company (BMY), Exxon Mobil (XOM), Chevron (CVX), Phillips 66 (PSX) and AbbVie (ABBV).

AbbVie may have set a top, but this could also be a short-term resistance point, depending upon the next few weeks. AbbVie must soon contend with its recent high.

We are holding Exxon, Chevron and Phillips in our portfolio. President Biden’s decision to release the Strategic Petroleum Reserves is a tough one and its influence on oil prices is at best temporary.  Inflation surged to 8.5% in March 2022, the fastest 12-month pace since 1981. A main contributor to the surge was oil and gasoline prices. On the other hand, treasury rates stand below 3%. Against this backdrop, our thesis is that energy names are an excellent candidate to help you survive and thrive in this high inflation and low-interest rates environment. Despite recent surges, both crude oil and gasoline price today are still where they were about… drumroll please… 10 years ago. Major European countries such as Germany are moving away from Russian natural gas and are planning to import liquefied natural gas from elsewhere, such as the United States.