The stock market tends to overreact to both news and trends. Up until 2016, the market assumed that General Electric’s (NYSE:GE) modestly improving operating results would continue, ignoring mounting problems under the hood. In late 2018, the market went too far in the other direction.
After GE stock tumbled from $30 to as low as $6.66, the pendulum swung too far the other way. This set up a huge buying opportunity, with some astute knife-catchers netting quick 50% gains from General Electric. At this point, however, I have to start to wonder if sentiment is getting a little bit too bullish again. All in all, $10 seems like a reasonable price for GE stock, but don’t expect more huge upside moves from General Electric anytime soon.
Tusa Rains on the Parade
Stephen Tusa has been GE stock owners’ worst nightmare over the past few years. The J.P. Morgan analyst famously went negative on GE stock in May 2016, when it was trading for around $30 per share. Over the years, he’s kept making prophetic warnings about the state of General Electric’s business.
Given how rare it is for analysts to take a strongly negative position on a stock and stick with it, Tusa has earned a reputation as a credible analyst. He recently further enhanced his standing with his prescient bearish call on 3M (NYSE:MMM) stock. 3M tumbled more than 10% – its worst one-day plunge in more than a decade – following its miserable earnings report in April. Tusa saw it coming.
In any case, Tusa upgraded General Electric from his long-standing “sell” rating up to “neutral” in December. That closely coincided with GE stock’s famous $6.66 bottom. While Tusa still had a lot of questions for General Electric, he thought GE could turn itself around, and GE stock consequently rallied.
In April, however, Tusa warned that the turnaround was not going according to plan. Not only did he drop General Electric stock back to “underweight,” but he actually trimmed his price target on GE stock from $6 to $5 per share.
He wrote: “We believe many investors are underestimating the severity of the challenges and underlying risks at GE while overestimating the value of small positives.” And Tusa makes some fair points. In particular, even most General Electric bulls will admit that the company’s 2019 is shaping up to be underwhelming.
GE Stock Will Only Drop to $5 If This Happens
A key point in Tusa’s bearish thesis is that GE stock can get pulverized if another recession hits before the company can clean up its balance sheet. Tusa accurately warns that the company’s debt load is persistently high, while its cash flow generation remains weak. Given General Electric’s considerable leverage to the economy, a recession could deliver a killer blow to GE at this point.
But the owners of GE stock should relax. The U.S. probably won’t enter a recession for at least a year. Despite all the fretting and panicking that occurred in late 2018, the economy held firm and is now looking up. The recently released GDP results came in above 3%, easily surpassing analysts’ consensus outlook.
Meanwhile, consumer figures look reasonably strong as well. Sure, there are some relatively weak spots, like autos and housing. On the whole, however, the economy is robust. Additionally, there’s still a ton of stimulus in the system from Trump’s tax cuts. Throw in the news this week that there appears to be bipartisan support for two trillion dollars of new infrastructure funding, and General Electric should find plenty of fresh contracts and opportunities to pursue.
Tusa’s point, however, is correct in isolation. The clock is ticking quickly for GE. General Electric needs to clean up its business, pay down its debt, and get its cash flow to more reliable levels. If a recession arrives in the back half of 2019, that would be awful news for General Electric. But that’s not a likely scenario.
General Electric Is Making Progress
It’s important to remember when considering Tusa’s bearish view that General Electric is getting stuff done. In particular, it sold its biopharma operations to Danahar (NYSE:DHR) for a cool $21.4 billion. Another meaningful move was the merger of its transportation business. It also sold a portion of its lighting business to private equity firms earlier this year, and GE is working on other deals.
There have been advances in other areas as well. Other analysts have pointed to decreasing uncertainty about the company’s insurance liabilities. Furthermore, the rising stock market should have a favorable impact on GE’s pension funding issues.
The Verdict on GE Stock
General Electric didn’t collapse in a day. It cratered during the financial crisis due to aggressive credit deals. Even then, it bounced back enough to hide the rot of its core industrial businesses for another decade. With an organization as huge as GE, things don’t break all at once.
Similarly, General Electric can’t be completely fixed in a day, either. CEO Larry Culp has been on the job barely six months. He’s already accomplished a lot during his tenure. Bears such as Tusa are right to say that much more needs to be done.
But it seems harsh to be cutting the stock’s price target at this point, especially since economic conditions remain favorable. That said, bulls may become overly exuberant. General Electric still has to make a lot of progress before it can become a steady blu- chip stock again. At $10, GE stock is fairly priced and balances General Electric’s risks and rewards equally.
At the time of this writing, Ian Bezek held no positions in any of the aforementioned securities. You can reach him on Twitter at @irbezek.
