We've got a fantastic game of leapfrog going and as long as investors keep playing we can continue to go higher.
What's leapfrog? It's when a company's stock in a particular sector moves up and it causes other stocks to be re-valued almost instantaneously.
How does it happen?
Okay, let's start playing.
We begin with the airlines. Recently we had Gary Kelly, CEO of Southwest Airlines (LUV) , on and he had some solid things to say about the month of November, namely that traffic had picked up week after week after week, post-election.
That was news to many and the stock moves up smartly. Now we have to interject the notion of the price-to-earnings multiple into the discussion.
We always need to consider that stocks do not trade on absolute bases. They trade on a relative basis. Think of it like this. If the stock of Action Alerts PLUS portfolio holding PepsiCo (PEP) is $105 and the stock of Coca-Cola (KO) is $41 that doesn't mean that the stock of PepsiCo is more than double the price of Coca Cola.
That's where the price-to-earnings multiple comes in. PepsiCo is valued at 21x forward earnings with a five-year growth rate of about 8%. Coca-Cola trades at a similar multiple to forward earnings, but the company's growth is slower than PepsiCo's right now. Therefore, one could argue, and I would do so, that PepsiCo's stock is cheaper than Coke's. Therefore, unless there is something about to happen at Coca-Cola that I don't know about -- a gigantic shareholder buy-back bigger than it has had, or, say a 50% increase in the dividend or a transformative acquisition that makes it less dependent on beverages the way PepsiCo has done with Frito Lay -- then I would rather own the stock of PepsiCo than Coca-Cola.
Now let's go back to the airlines. Southwest Airlines is regarded as the best-run large capitalization airline in America. It earns that distinction because it is a classic growth stock that has never lost money and has a pretty terrific balance sheet.
When Gary came on the show his stock was selling at about 12x next year's earnings.
But in the next couple of days his stock ramped and it ended up with a new, higher price-to-earnings multiple of turn, as we call it, of 13x.
Now as I mentioned earlier, Southwest gets what's known as a premium multiple to the rest of its group because of its superior track record.
But now we look at the rest of the group and say, "Hold it. Southwest typically trades at about a four multiple point premium to the rest of the group. After this move its traded at about five times."
The very next day, United Continental (UAL) reported that its revenue-per-seat-mile is doing a little better than anyone thought. Suddenly, that means that United, which is stuck in the scrum with American Airlines (AAL) and Delta Air Lines (DAL) , gets re-valued up a bit, trades higher and escapes the pile.
Today, though, Delta gave a presentation and sure enough even as it gave a host of negatives it talked how things had gotten much better since the election and its management is excited about all of the changes President-elect Donald Trump wants to make with infrastructure and tax reform.
Sure enough, Delta's stock then leapfrogs United's in value because in this kind of market, we immediately award points to any company that surprises to the upside.
But then intraday, investors extrapolate that news and we get pin action that elevates the others in the segment. Next thing you know they are all selling at 8x earnings.
Leapfrogging takes the whole group higher. Now, if we were in a less-favorable market none of this would matter. These companies' stocks had been beaten to a pulp over the last year. In fact, they got so low that Warren Buffett, who famously told people he would never buy an airline stock after a terrible experience he had with US Airways (LCC) , waded in because they were such deep-value plays.
They have been going up ever since. Now, though, it is fair to say that -- when we are surrounded by the animal spirits and the anointing of new Trump stocks all of the time -- if American Airlines comes out tomorrow and says it's having a real good holiday season, then American should leapfrog Delta and United.
I know it seems silly. But then again, so is the game of leapfrog.
The same thing is happening in a whole host of industries. We have Western Digital (WDC) , the disk-drive, flash-memory company with a stock that's red hot because last week it pre-announced that it would have better-than-expected earnings because of stronger demand for its products, including personal computers.
There are a host of companies that serve the personal computer industry, including Seagate Technology (STX) , Advanced Micro Devices (AMD) , Micron Technology (MU) and Intel (INTC) . Western Digital had historically traded tightly with Seagate, its principal competitor. Next thing you know Western Digital gets revalued up on this good news. Now, as you will hear tonight, Western Digital is a transformed company. It made a brilliant acquisition of SanDisk not that long ago, which allowed it to benefit from a very strong flash memory cycle. And it has expanded into much more of an Internet of things storage play.
Given what we heard earlier this week from Digital Realty (DLR) , the data farm real estate investment trust, there is tremendous demand for more storage in the cloud, with more of it coming down the pike, including an extensive rollout of driverless cars.
But we are in a moment where we are not going to accord the stock market's investors with a lot of candle power. Most people in this business are barely aware of the transformation of Western Digital. So when they see its stock flying they want to play leapfrog with Seagate. Next thing you know, Seagate's trading at 10x earnings, a point more than Western Digital.
Do you know that after Western Digital gets its story told tonight I bet it plays leapfrog over Seagate?
We are seeing the exact same game unfold with all of the other personal computer components right now, too, with Advanced Micro leading the charge. When people see AMD trade north of Intel then it's "game on" for those two.
Now leapfrog isn't the only stratagem happening right now. We also have an umbrella contest going on in the higher-end semiconductor segment led by Cramer fave Nvidia (NVDA) .
Here's a company with the fastest growth in the industry that has become the American Pharaoh of the chip industry, yes, the legendary Triple Crown race horse. Because it is the company with the most momentum and the greatest earnings power it sells at 34x next year's earnings.
That's up from about 30x earnings not that long ago. Nvidia's most recent spurt came yesterday after a period of rest when a new analyst slapped a Buy on its shares.
Now the rest of the fast growers in the group are on the move because Nvidia has given the group's stocks a bigger umbrella to move higher.
Again, it seems silly. When I first understood this stuff I thought it was outrageously dumb. I mean really? Leapfrog? Umbrella? That was back in the 1980s when the great bull market began.
It stayed this way in the 1990s but cooled after the dot-com crash in 2000. Since then these games have been pretty forgotten. Then the Great Recession hit and, with a few exceptions like Action Alerts PLUS holding Facebook (FB) , Amazon (AMZN) , Netflix (NFLX) and Action Alerts PLUS holding Alphabet (GOOGL) (now known collectively as FANG) we were stuck with a low-growth environment seemingly forever. If you didn't have super growth you needed to have other catalysts to move your stock higher, whether they be takeovers or spinoffs or big dividends and buybacks, what we call self-help.
Everything else pretty much stagnated.
That's because almost all of these other companies lacked top-line growth. Then Mr. Trump got elected president and ever since then?
Well, you see it unfold every day. Much of this move stands on his three-legged stool of growth: lower corporate taxes, repatriation of funds from overseas and deregulation. With the possible exception of the Federal Reserve, almost all investors think this combination will re-ignite growth for all like we had pre-Great Recession.
That, and only that, can account for the games because they are played only when we have this kind of backdrop.
My advice: You don't have to get involved in kids' games. Own the stocks of great companies that are undervalued and let them go higher regardless until they get so expensive that they need to be sold and no stock mentioned here is there yet.
Just understand, though, why it is happening lest you think, hey, I'm a genius. It's much more that you are in the right place at the right time: the stock market in the post-election era.
