Bargain Basement

Steve McDonald
by Steve McDonald, Bond Strategist, The Oxford Club

In this red-hot stock market it’s hard to find a bargain. So when you see P/Es around 10 from one of this country’s best companies - when the rest of the market is topping out around 17 - it may be hard to pass up. But think again.

Deere & Co. (NYSE: DE) has been one of my favorite stocks since 2009. It is coming off a huge year and the P/E is only about 10. On the surface this one seems like a slam dunk; a great name, solid business model, all the right moves, but look deeper.

Earnings are expected to fall 8% this year and 17% next. And the bottom for its problems is not expected to form for two more years.

Corn prices have slumped to a four-year low, which will hurt Deere’s numbers going forward, and a bubble in farm land prices is adding to the tough sledding analysts are expecting for this market stalwart.

A P/E of 10 doesn’t look so cheap now in that light.

On the other hand...

Hewlett-Packard (NYSE: HPQ) has a P/E in the 10 range but with very different expectations.

Shares have doubled since 2013 and were up 5% in one day recently. The stock is up 13% since April and still looks cheap.

Management is cutting costs across the board and reducing debt; all the right moves. PC sales are expected to continue to decline but are forming a bottom.

Flat sales are a positive, but last quarter sales grew year over year for the first time in three years.

Citi analysts see shares running ahead of estimates and could deliver double-digit returns next year.

Two stocks with similar P/Es but a world of difference in their expected growth of earnings and revenues. And going forward, that is what it will all be about: earnings and revenue growth.

In this market even in the big names, you have to look beyond the ratios.

Homebuilders: Giving Off Good Signals

Homebuilder sentiment has grown for the third month in a row. This is a sign that homebuilders are seeing better conditions.

All three components of the index rose, including traffic through new homes.

Housing starts rose 10% and single family permits grew by 4% year over year.

Single family starts rose 5.7% year over year

All good numbers and very encouraging, but the real action is in the West.

Starts there were up 17.5%, and that’s where KB Home (NYSE: KBH) and Toll Brothers (NYSE: TOL) could have a big advantage over other builders.

KB Home has a strong presence in the West, and Toll Brothers is completing its acquisition of California-based Shapell Homes.

Activity is increasing in the Midwest as well, but the West looks to be where the big numbers are happening.

And, the strong starts data is pointing toward more spec houses, a solid sign of builder optimism.

I have been pounding the table to buy the builders since the depths of 2009. The good news is finally rolling in, and this may be your last shot at this one.

Look at the homebuilders, especially Toll Brothers and KB Home.

The Who, Me Worry “Slap in the Face” Award

A recent MarketWatch article claims Social Security has plenty of money and there is no need to worry about it.

Really? I guess MarketWatch and I have different standards for worrying.

According to the article, by 2020 the costs will exceed income, which will shrink the trust fund. That’s the reserves the program has set up.

By 2033 the trust will be exhausted and the fund will be able to pay only  about 77% of its obligations from the income it receives from workers.

And these numbers were in the same article that said there is nothing to worry about?

Hello? Are you kidding me? This is nothing to worry about?

The generation behind the boomers, the folks born between 1980 and 2000, outnumber the boomers by a large margin. This group will be hitting the Social Security roles a few years after it can’t pay all its obligations.

And this is OK?

The author of this article has to work for the White House or Congress. Only in those two places could this situation be considered something we don’t have to worry about.

Unbelievable!

I’m back on the “Let’s send our elected officials a calculator with instructions on how to use it to add and subtract” bandwagon.

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