Did you miss the run in Procter & Gamble (PG)? Did you fail to catch the gains in Home Depot (HD)? Sat on the sidelines for the move in Verizon (VZ) and AT&T (T). Missed the run in Honeywell (HON) or Caterpillar (CAT) entirely? I say welcome to the club that defines this market, especially on days like today.
Instead of just kicking yourself for missing these moves, let's learn from them. Let's figure out how we can spot them and profit from them.
Consider the stock of Home Depot. I have been recommending this screamer ever since the show started almost 11 years ago. Periodically it sells off, and when it does the last thing people want to do is buy it into one of those selloffs. But if you aren't going to "miss" the next opportunity, you have to be ready for these kinds of selloffs.
In the beginning of February, the stock of Home Depot fell for five straight days, dropping from $126, slightly below where it is now, to $111. Did anything happen during that period that would have caused Home Depot's stock to decline that severely?
I went back to the news flow to check and there was only one piece of information that came out that was of any relevance: Home Depot put out a press release that it was going to hire more than 80,000 workers for its biggest season, its equivalent of Christmas, the spring. I read the release over and matched it with the release of the previous year, a year where the stock outperformed most others in its category, if not in the entire market.
When you put them side by side, you realize a couple of things: First, the company was even more bullish than 2015 about the spring planting season, indicating that it needed many more people to work outdoors. Second, it needed people to work its rapid-distribution center to meet online demand.
That's it. That's the only news that came out during that period. Of course, there are other inputs that could impact the stock during that retreat. But I looked at those, too. Most had to do with bad earnings from software companies, totally tangential to Home Depot. There were some worries about Deutsche Bank (DB) and its ability to pay back its convertible bonds. That concern, however, should have led you to, not from, Home Depot, as the company is entirely North America-based. Something scary that's happening at Deutsche Bank is precisely why you want to own Home Depot.
What else? The price of Treasuries soared during that period, with the 10-year hitting 1.6%. Meanwhile, because of the decline in Home Depot, it was suddenly yielding about 2.5%. I like that differential and I certainly prefer the balance sheet of the largest home-goods retailer to the U.S. government, especially during an election year when all politicians make it sound like we are going to go broke in a nanosecond.
How about oil? Sales of Home Depot are indeed correlative with lower gasoline prices. How was oil doing during that period? It was embarking on still one more swoon, this time to the low of the cycle, $26, another positive.
In short, the only inputs you had were positive ones. Nevertheless, the entire market sold off, taking the stock of Home Depot with it. Had you stepped up around the time of the hiring binge announcement you could have had a gigantic gain. But fear probably kept you out of it.
How about Verizon? Here's the Purloined Letter of rallies. Literally. Going into the quarter, Verizon's stock had fallen for three straight days from $47 to $44. Then on Jan. 21 it announced earnings that were viewed as being so-so by the headline-writing community. Verizon, though, is unique in that it trades off cash flow, not earnings, because it has a massive amount of depreciation, or in English, it takes regular accounting charges on its plant and equipment that distort the actual numbers in a negative way. Verizon's cash flow was extraordinary, $38 billion vs. $30 billion the year before, and even if you X out a one-off gain of $2.4 billion, that's still spectacular cash flow generation, more than enough to cover future dividend boosts for a stock that always has paid an above-average dividend.
The churn, how many people they lost, another important metric, was superb and they had 1.5 million new sign-ups, again better than expected. This was no average quarter for Verizon, it was a game-changer. The stock proceeded to go up a buck, not even back to where it was before the three-day swoon. How can that make sense, especially when it was yielding about 5% back then and the 10-year Treasury, the benchmark we use to gauge utility stocks like Verizon, was falling in yield? You got almost three times the yield of Treasuries even after it reported that magnificent quarter.
It wasn't the end of a move, it was the beginning of a new one and the stock jaunted to $52. How did you miss it? Again, during that period we had plenty of weakness in China, we had European bank issues, we had plenty of chatter about souring oil and gas loans. In short, you had everything that should have driven you to the shock-proof stock of Verizon.
OK, how about Caterpillar? This one's a lot tougher than the others because there was lots of negative news all over the place about Caterpillar's customers when it reported back on Jan. 28. But the company had an out-and-out beat of earnings, 74 cents per share vs. the 69 cents people were looking for, and it wasn't made up of smoke and mirrors. It was a very real number that showed you all the cuts in jobs and costs the company had made were really paying off.
What mattered here was that Caterpillar yielded about 5.4% and its cash flow relieved you about the possibility that CAT would cut the dividend. The company didn't give you any positive guidance. But that's OK, we had grown tired of when they did. If anything, they made it clear that there's tough sailing ahead, yet they had taken the costs out to weather the storm. The stock bottomed at $58 and the next thing you know we have a commodity rally in pretty much every sector that the company's machines are sold into.
And while we tend to think of CAT as a China play, we really should invest in its stock not on the basis of China's import or export numbers but on the actual price of the commodities that its customers produce and sell. On those grounds, CAT was a screaming buy, in part because the increases in commodities showed you that the gigantic cutbacks that CAT's customers have made have finally allowed demand to catch up with supply. When those reach equilibrium and then some, Caterpillar's orders go on will increase and I think that's going to be the case again. Only one analyst rates CAT a buy at this moment; there are 14 neutrals and four sells. Do you think that's going to stay that way as Caterpillar's stock falls like it did today?
Hardly, I say, based on the commodities rally, it's going to be a footrace to upgrade the first chance they get.
I am by no means saying every selloff is an opportunity in this market. I am saying, though, that in each of these cases with these big Dow Jones stocks, you should kick yourself for missing them. Home Depot signaled its bullishness with its spring hiring spree, especially its Internet needs, the division that really powered the stock's earnings surprise. All you had to do was know that the cash flow, not the earnings, was what mattered with Verizon and you could have picked some up even after the fabulous quarter knowing that it didn't even get the stock back to where it was a few days before it reported. With CAT? You had to know what it traded in conjunction with. The stock's been hammered with the decline in commodities. So it is natural to expect it to increase with the rally in aluminum, copper, oil, iron and pretty much everything else that trades in bulk.
Now, I don't want you to kick yourself to death. I do want you to remember that the S&P 500 futures take down a lot of stocks that shouldn't go down. You just need to stay clear-headed and you can stop saying, "I missed it," and start screaming, "I nailed it."