Growth Within a Defensive Sector
One of the best opportunities in individual stocks comes when you find an attractive stock within a sector that already is working. Too much money and opportunity is flushed down the drain when investors go playing contrarian cowboy — looking for winners in a losing group. It took me a long time to figure out that stocks were a bit like residential real estate — it is much better to own a mediocre home in a great neighborhood than to own a mansion located in a slum.
In ARCO, we have a company with high growth potential that also belongs to a theme that has been working incredibly well — eating. Some of the best performing stocks of late have been of the defensive variety (for obvious reasons). This trend will not last forever, but for the time being, it is safe to say that highly affordable dining is one area that global consumers will not be cutting back on.
The Comeback Potential for Emerging-Market Equities in 2012
The last leg of the table is the prospect of a broad-based comeback for emerging markets-related stocks in general. All of the geniuses at the end of 2010 listed “emerging markets” as a key theme for 2011. They were right for about 15 minutes, and then it was a bloodbath for the remainder of the year. I spent the majority of the year almost completely out of emerging markets but praying for a reason to get back in.
There are two major reasons why the EM stocks might outperform in 2012. The first is that investors have turned their backs on them as valuations have plummeted; the MSCI Emerging Markets Index is down 22% versus flat performance for the S&P 500 and no longer is trading at a premium multiple to developed markets. Goldman Sachs (NYSE:GS) noted last week that EM stocks are trading at a 35% discount to their mean price-to-earnings ratio going back 15 years.
It also is noteworthy that emerging market countries, from China to Brazil, have just begun cutting interest rates again. The last three times they did so — 2003, 2005 and 2008 — were excellent buying opportunities. Should EM central banks continue to ease, this should act as a tailwind for both emerging market equities in general and, by extension, for ARCO.
I view ARCO as an exciting stock with lots of potential and several ways to win. The stock obviously is not without its risks, however, as it only has been trading publicly for less than a year and operating in a volatile global macro environment.
Before I leave you, I just want to note that this thesis is a work in progress — we still haven’t discussed recent events or valuation. I will be continuously updating my comments on ARCO throughout the year here at InvestorPlace, and I ask that you treat everything I say as a jumping-off point for your own research, and not as an unqualified buy recommendation.
Thanks for reading, and stay tuned.
Josh Brown is a financial adviser at Fusion Analytics, managing portfolios for both institutional and individual investors. He also hosts “The Reformed Broker,” a blog about markets, politics, economics, media, culture and finance. Email him here or follow Josh on Twitter at @ReformedBroker.