For those with a sweet tooth — whether in terms of post-meal snacks or portfolio picks — some big news just came out of Washington: The U.S. government is considering buying 400,000 tons of sugar.
As the Wall Street Journal put it, that’s enough for 142 billion Hershey (NYSE:HSY) Kisses … and enough for candy-makers across the board to feel the blow.
See, the USDA is considering the huge purchase to prevent government-supported sugar processors from defaulting. The sugar industry has relied on subsidies for some time, as the USDA makes loans to sugar processors every year as part of the 1934 Sugar Act.
Sugar prices have been plummeting since the government made nine-month operations-financing loans beginning in October. The cost-per-pound sits at 18.82 cents today vs. a price of just under 30 cents last summer.
Click to Enlarge Those low prices have helped fuel a recent run in candy-centric companies, including Hershey, Tootsie Roll (NYSE:TR) and Rocky Mountain Chocolate Factory (NASDAQ:RMCF). (Of course, big names like Mondelez [NASDAQ:MDLZ] and Nestle [PINK:NSRGY] also make delicious snacks, but their diversification makes them less direct plays.) Just take a look at the accompanying chart, courtesy of Google Finance:
Hershey’s 17% year-to-date path nearly doubles the 9% gained by the S&P 500, and brings the stock’s one-year climb to an eye-popping 40%. RMCF and TR aren’t far behind, with recent gains bulking 12-month returns to 33% and 30%, respectively.
Now, though, there’s a worry that with a Big Sugar bailout possibly in the works, sugar prices will climb back up and the days of such eye-popping outperformance could thus be over. The WSJ flatly says as much: “Candy makers will suffer if the U.S. government buys sugar.”
Click to Enlarge But the logic behind such a conclusion — that there’s an inverse correlation between candy-maker success and lower sugar prices — doesn’t hold across the board.
Hershey has proven that its customers can and will deal with higher prices. It began pushing steeper price tags in 2011 to deal with high input costs; that year, HSY still managed to climb 29%. However, in the same time period, TR and RMCF lost 16% and 10%, respectively — yes, likely in large part thanks to the then-30-cent-per-pound price of the sweet commodity.
Even with that distinction in mind, there’s a bigger red flag that should keep you away from these companies — including Hershey — for now.
The issue isn’t so much with the potential higher prices of sugar, but the increasingly higher prices of these soaring stocks, which are now trading at some lofty premiums.
Tootsie Roll’s $28 sticker, for one, is a whopping 32 times its expected earnings for 2013, and 30 times its expected earnings for 2014. Things aren’t much cheaper at Hershey, with a P/E ratio of 23 based on FY2013 numbers and 21 based on FY2014.
Tiny Rocky Mountain Chocolate Factory (just a $75 million company by market capitalization) looks best on this front; it’s trading for “only” 19 times projected 2013 earnings and is in the midst of huge international expansion.
RMCF also is the most attractive stock of the group as far as dividend yield is concerned. Rocky Mountain pays out a healthy 3.6%, while share appreciation has dwindled HSY and TR’s payouts to a respective 2% and 1.1%.
Still, RMCF’s steady climbs since the financial-crisis lows leave it far from cheap now. And there’s also the added risk of Rocky Mountain’s thinly traded shares — just 17,000 exchange hands daily vs. more than a million for HSY. (For what it’s worth, Tootsie Roll’s not exactly a huge mover, either, at 80,000 shares daily.) Spreads won’t be ideal, so if you do decide to go after RMCF or TR, make sure to use limit orders.
But I wouldn’t bother. The bottom line is that with crazy outperformance already in the books, and sugar prices potentially about to get an artificial sweetening, now isn’t the time to take a bite of any of these picks.
As of this writing, Alyssa Oursler did not hold a position in any of the aforementioned securities.
