Value stocks, which have underperformed the market since the middle of May, have been trying to rally over the last few weeks.
The reasons for the recent sloppy performance are varied, but we can break them down by sector.
Commodities prices have declined since May, hurting the performance of materials stocks. Concerns that economic growth is currently peaking has weighed on industrial stocks. Lower interest rates have pressured financials. Finally, these economic factors have also encouraged money to flood into tech and growth stocks and away from value stocks, as these stocks are felt to be more immune to a slower economy. At the same time, exceptionally low rates are helping to keep valuations high.
We have taken some lumps during this tough period, but I like where we stand now. While the economy will slow from the current post-pandemic rebound, growth should be positive in 2022. This will provide a positive backdrop of the earnings growth of our value stocks. And while the overall market is pricey, with the S&P 500 trading at 21X 2022 earnings estimates, there is still solid value in our names, with most having a healthy dividend yield.
While the timing is hard to predict, I believe that the economic outlook for 2022 will become clearer at some point, interest rates will start to rise and value stocks will begin to outperform again. I believe we are well positioned to take advantage of that when that time comes.
Fulton Financial: A Growing Regional Bank.
Fulton Financial (FULT) is a commercial bank that provides lending, deposit and checking services through 200 financial centers located in New Jersey, Pennsylvania, Delaware, Maryland and Virginia. The company derives most of its revenues (73%) from the net interest income of its lending operations. Roughly two-thirds of the bank’s loans are to businesses in the form of commercial, commercial mortgage, industrial and construction loans. The balance of loans is to consumers, primarily from mortgage, home equity and personal loans.
Non-interest income comes from various sources, including a wealth management division that accounts for 25% of non-interest revenue. The bulk of the remainder comes from mortgage banking and capital markets operations, as well as consumer banking fees.
The company has realized good loan growth without the benefit of acquisition in recent years, with the total amount of loans growing from $14.7 billion in 2016 to $18.9 billion in 2020, or an annualized rate of 6.5%. More importantly, credit quality remained strong, with non-performing assets to total loans drifting down from 0.82% to 0.72% over the same period.
These factors allowed earnings per share (EPS) to increase from $0.93 in 2016 to $1.36 in 2019, before falling to $1.08 last year as the company took on extra loan reserves to cover future pandemic-related losses.
However, since actual loss results were not as bad as expected, the company was able to reverse most of the losses from last year during the first quarter of this year, allowing EPS to increase to $0.43 from $0.16. Also encouraging in the quarter was that the total amount of loans inched up to $19 billion, while most banks saw the amount of loans decline over the quarter. In addition, net interest income managed a small gain, even as the company is seeing margin pressure from lower interest rates. I believe that EPS can improve to $1.40 this year and should only decline to $1.30 next year in the absence of the benefit of reversing credit losses.
While the stock is not dirt cheap for a bank at 12X next year’s earnings estimate, I believe that it offers a strong relative value in a market that has gotten pricey.
Regional banks were all the rage for investors in the first four months of the year, with FULT reaching $18.40 in March. I believe that once we get past concerns over the economy that I feel are overdone, the group can start doing well.
FULT is a quality operator that should do very well if regional banks end up rallying. FULT is a buy below $16. My target is $18.50. The 3.57% yield should add to total returns.
Position Review
3M (MMM) will report second-quarter earnings before the market opens on July 27. Expectations are for EPS of $2.26 vs. $1.78 on a 20% increase in revenue, with last year’s results depressed due to the economic shutdowns from COVID-19. There are some concerns about slowing revenue in the health care segment and the potential for significant chemical clean-up costs. However, the stock remains among the cheapest of the major industrial companies, and I believe that solid earnings should keep sending the stock higher. 3M is a buy below $185. My target is $210.
Cognizant Technology Solutions (CTSH) will report earnings after the close on July 28. Expectations are for EPS of $0.96 vs. $0.82, on a 10% revenue gain to $4.4 billion, with comparisons relatively easy due to the impact of COVID-19 last year. CTSH has struggled since its last earnings report due to concerns about the spring outbreak of COVID-19 in India and the increase in the cost of retaining consultants. However, I still believe that the company can continue to see success from its new growth initiatives, and the stock is cheap at 16X next year’s earnings estimates. These positives will move the stock higher. Buy CTSH under $75. My target is $85.
Dollar Tree (DLTR) shares have stabilized over the last few weeks, perhaps reflecting hope that lower inflationary expectations will help hold down shipping costs. This forced the company to give disappointing guidance following the release of fiscal first-quarter earnings. The company has the potential to earn over $7.00 a share in its next fiscal year if shipping costs decline and the company still has success with its combination Dollar Tree/Family Dollar format stores. With the stock cheap at 14X this potential estimate, I remain positive on the name. Buy Dollar Tree under $110. My target is $125.
General Mills (GIS) shares have not done much after its fiscal fourth-quarter earnings report, but I remain interested in the stock. Price increases will eventually offset rising costs, and I believe that EPS will decline by less than 2% during the May 2021 fiscal year, despite tough COVID-19 cost comparisons. If so, this would show the strength of the company’s brands and management. At 15.7X estimates, and a 3.4% dividend yield, the stock is a strong value in the low interest rate environment. GIS is a buy below $59. My target is $65.
Ingredion (INGR) will report second-quarter earnings in the first week of August. Expectations are for EPS of $1.55 vs. $1.12 on a 26% increase in revenues to $1.7 billion, with comparisons being relatively easy due to the impact of COVID-19 last year. Although the stock is off its highs for the year, it has done better recently, perhaps reflecting a decline in corn prices. This could potentially lead to better-than-expected profit margins in the second half of the year. The stock remains attractively valued at just over 13X next year’s EPS estimates and sports a 2.8% dividend yield. I am raising my buy under price for INGR to $93. My target remains $105.
Investors Bancorp (ISBC) will report second-quarter earnings after market closes on July 28. The company will have a conference call on the following day. Expectations are for EPS of $0.28 vs. $0.18, with the company facing much lower credit losses this year. This was because last year’s results included COVID-19-related reserves. The stock has stumbled since last month’s recommendation, as regional banks have been weak performers. However, I am optimistic that earnings will show that the company can remain very profitable in the current interest rate environment, and that the loans that are in forbearance due to COVID-19 will continue to decline. Buy ISBC below $15.75. My target is $18.
Juniper Networks (JNPR) will report second-quarter earnings following the close of trading on June 27. Expectations are for EPS of $0.35 vs. $0.35 on an 8.2% increase in revenue to $1.14 billion. JNPR’s results will continue to get boosted by acquisitions and customers’ enthusiasm for the company’s new artificial intelligence-based networking products. I believe that a good report could make more believers in the turnaround story at JNPR. This would get the stock close to my $32 target. JNPR is a buy below $28.
Kronos Worldwide (KRO) will report earnings in the first week of August. Expectations are for EPS of $0.27 vs. $0.16 on a 25% increase in revenues to $483 million. The stock has struggled since May, as is the case with practically all commodity producers. However, titanium dioxide contracts are at record highs, and if investors become more confident regarding the economic outlook for 2022, the stock should do very well. KRO is a buy below $15. My target is $18.50.
Mueller Industries (MLI) will report earnings sometime next week. EPS should be sharply higher than last year’s $0.50, reflecting sharply higher copper prices from the prior year and the end of the economic shutdown. I believe that MLI will earn at least $1.00 a share over the course of the quarter. While the stock has been on the defensive since May, as copper and other commodity prices have slipped, earnings should remain strong, provided that global economies stay firm. Mueller is a buy below $48. My target is $52.
Safety Insurance (SAFT) will report earnings in the first week of August. While I believe that the company will earn less than the $1.95 a share in the previous year, as the Massachusetts economy has reopened, I believe that a solid result of $1.70 a share is possible. Also, the company can earn $6.75 to $7.00 a share in a post-pandemic environment. The recent weakness in financials in general has hurt the stock, making it attractive at the current price. Buy SAFT under $80. My target is $90. The 4.2% dividend yield will add to total returns.