by Ed Elfenbein | December 31, 2013 9:53 am
Last week I unveiled my 20 stocks for next year’s (2014) Buy List. This week, I want to discuss the changes I’m making in greater detail.
The five new stocks I’ve chosen for the Buy List are eBay (EBAY), Express Scripts (ESRX), IBM (IBM), McDonald’s (MCD) and Qualcomm (QCOM). Remember that the new Buy List goes into effect at the start of trading on Thursday, January 2. For tracking purposes, the Buy Prices will be the closing prices on Tuesday, December 31.
I want to remind investors that good stocks often appear as dented merchandise. The question we should ask is, how severe and lasting is the damage? With each of the new buys, my analysis tells me the issues are manageable and the prices are well worth it.
Whenever I release my Buy List changes, I often get people asking me if I’ve completely lost my mind. Last year, for example, many readers questioned my selection of Microsoft (MSFT). They told me all the mistakes the company had made, but what’s interesting is that very few people mentioned the price. Sure, any company can have problems. But as investors, we’re always looking at the impact those problems have on share price. Fortunately for us, MSFT has been a 40% winner this year.
With that lesson in mind, let’s look at our five new buys, followed by our five new ‘deletions':
In less than 20 years, eBay (EBAY) has grown to become the largest marketplace in the world. It’s a truly phenomenal business. The online auction house will generate revenue of $16 billion this year. I’m not a pure value investor and I think there are times where it’s worthwhile to pay a premium for growth; eBay is a good example (Cognizant (CTSH) is another).
Wall Street expects eBay to earn $3.14 per share next year, which means the stock is going for about 17 times earnings. That’s above the market, but it’s not a gigantic premium. I like the current valuation. eBay’s revenues will rise about 15% this year, and the Street sees another 14% increase next year. Bottom line: You’re getting a strong brand for a good price.
Express Scripts (ESRX) is a pharmacy benefit management company. It’s a very large outfit with more than 30,000 employees and a market value of $56 billion. Last year, Express Scripts bought Medco Health Solutions which had been spun-off by Merck (MRK) ten years ago. Large deals like that are usually hard to digest and ESRX has been a market laggard recently. The stock got dinged a few weeks ago when it missed earnings by a penny per share. The shares have rebounded lately, but it’s still a very solid buy.
Truthfully, I’ve wanted to add ESRX to the Buy List for many years, but I’ve always thought it was too expensive. The price action over the last two years tells me I was right. Now’s our chance. This is a strong company and it could be a breakout winner next year.
Few companies have taken as much abuse as IBM (IBM) has recently. The stock gradually drifted lower over the last year. What else can be said about Big Blue? It’s one of the largest multinational tech companies in the world. IBM is involved in just about every facet of business technology. Without exaggeration, IBM makes some of the largest and smallest technologies on the planet. Their earnings have been pretty good. IBM said their goal is to earn $20 per share by 2015. They’re aiming to return $70 billion to shareholders by then ($50 billion in buybacks, $20 billion in dividends). I know that investors are skittish of stocks with high nominal share prices. Try not to let that scare you away from IBM. Even if you only pick up a few shares, IBM is a outstanding company.
McDonald’s (MCD) is probably the unlikeliest of the five new buys. It’s not the kind of stock I’m usually drawn to, but the valuation and generous dividend yield made me a believer. Again, it’s a strong brand name trading at a discounted value. Make no mistake: McDonald’s is working through some problems, but it’s nothing they can’t handle. Wall Street hates MCD right now which is one of the reasons why I like it. As of Tuesday, the stock yields 3.3%. They’ve increased the dividend every year since 1976.
Qualcomm (QCOM) is good value play in the tech sector. The company has no debt and it generates tons of cash. The shares are currently going for less than 14 times next year’s earnings. I’ve also been very impressed with QCOM’s management.
Now let’s take a look at the five stocks I’m deleting. Note that I am referring to these stocks as “deletions” not as sells – I don’t believe there’s a pressing need for investors to ditch any of these five positions:
FactSet Research Systems (FDS) has been one of my favorite Buy List stocks. There aren’t many companies whose earnings trend is as smooth as FDS’s. Unfortunately, I think the price here is just too much. The stock is going for 23 times trailing earnings. I wouldn’t mind adding FDS again to a future Buy List. Actually, this time was the stock’s second visit to our Buy List.
Harris (HRS) has been a wonderful investment. The communications equipment stock is up over 42% on the year, and it just hit a new all-time high. My concern is that the business environment for HRS will be much more challenging over the next few years (government spending in particular). I have little doubt that Harris can handle these challenges well, but for now, I’d prefer to focus on companies with better prospects.
JPMorgan Chase (JPM) was a difficult call for me. I’ve done well with JPM and I still think the bank is a good value. However, the headline news and behavior of Jamie Dimon were just too much to bear. Ideally, I’d like to see JPM break itself up. I think that would be a huge benefit for investors, and I would certainly be interested in any of the Baby JP’s. I hope to see another big dividend increase in 2014.
Nicholas Financial (NICK) was the easiest decision to make. As I’ve mentioned before, I’m not a fan of the “buy under” deal they made, but there doesn’t seem to be anything we can do. The buyer, Prospect Capital (PSEC) seems to be a well-run closed-end fund with a rich dividend. The buyout is scheduled to take place in April at $16 per share. One benefit is that trading in PSEC is far more liquid than trading in NICK.
WEX Inc. (WEX) was one of our more unusual stocks this year. The company provides payment processing info for vehicle fleets. WEX got off to a horrible start and was down 10% by early May. After that, the stock rallied dramatically off its low. The company posted good earnings, and the last report was particularly strong. This is a good company, but I think the price is a bit rich here.
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