What a gigantic mess the Silicon Valley Bank/ Signature Bank debacle has created.
I have plenty to say on what caused bank run, and how to fix it, but that is a rant for another day.
The thought that we will now have to wake up every morning and worry about the possible destruction of our financial system is very depressing. These problems have a dramatic effect on how to look at common stocks.
We are now about to enter a full blown credit crunch. There are lots of companies with average balance sheets that are now temporarily un-investable. That does not mean these companies will go bankrupt, it means they become too risky for my conservative approach. I now worry we will have to cut rates to bailout the real estate folks.
After a few weeks of thought I have decided to make some significant changes in my model portfolio. The world has changed. It is time to play defense.
Let me be perfectly clear, I would prefer to own the 2-year Treasury bond and gold. The portfolio below is what I would own if I had a very long time horizon, or I had some small allocation to equities.
Here is the new model portfolio:
The sector allocation can best be described as:
50% - defensive/conservative
25% - some risk, non-cyclical best ideas
25% - best places to hide in a storm
Defensive/Conservative
NovaGold Resources - NG - $6 - NG has the greatest leverage to $2500 gold. I own gold stocks for exactly what happened two weeks ago. Our financial system is very fragile, and our government is very screwed up. My goal is to live long enough to see the Donlin Mine get built.
Royal Gold - RGLD - $126 - RGLD is the lower risk way to invest in gold. Everyone should own this stock. RGLD has exposure to over 150 properties. Increased operating costs to not directly effect royalty owners.
Roche Holding AG - RNNBY - $35 - Roche is executing a long-term strategy that Wall Street is too impatient to understand. Roche bought Genentech in 2009, and the benefits are just beginning to show up.
Merck - MK - $105 - MRK has a well above average pipeline. If financial conditions permitted I would prefer to own Royalty Pharma - RPRX, but with interest coverage under 5x, it is the perfect example of companies you now should avoid.
Evergy - EVRG - $58 - It is time to go back to utility stocks. Take the 4% yield and be happy. EVRG is a very simple utility that has decent relations with its Kansas/Missouri regulators. There is beauty is simplicity.
ALLETE - ALE - $63 - ALE is a higher risk utility. They have make a big move to renewables, and the regulators in Minnesota seem to have signed off on their plans. ALE has more growth opportunities than most utilities. There are plenty of safer choices, but let’s live on the wild side for once.
Tyson Foods TSN - $57 - TSN has done a great job of consolidating their industry. Many even call them a monopolist. When I can buy a monopolist at 8x earnings power, I will jump at the chance. Earnings will always be volatile, but interest coverage is still over 10x.
Verizon Communications - VZ - $38 - I am not a high dividend yield investor, but when I look at the high yield universe VZ jumps off the page. VZ has built a decent 5G network, and should eventually get enough business customers. The 7% yield is very safe.
Phillips 66 - PSX - $94 - The refining business is just too volatile for Wall Street. I think mid-cycle earnings are $13/share, and the chemicals business provides some upside.
Arthur J. Gallagher - AJG - $186 - Insurance brokerage is the best business in the world selling at 15x EV/EBITDA. If you buy commercial insurance, you have to use a broker. There is no balance sheet risk here. Higher interest rates could eventually turn the pricing cycle. In the current environment, this is a good stock to own.
Best Non-Cyclical Ideas
Azenta - AZTA - $42 - These guys spun-off the Brooks Automation business, and are now building a biotech services business. They have over $1 billion is cash, no debt, and are buying back stock like crazy.
Kirby - KEX - $67 - What could be more interesting than the inland barge business. Cheap natural gas means lots of opportunities in transporting petrochemicals. Interest coverage is only 4-5x, but debt structure is very solid.
Red Rock Resorts - RRR - $42 - The balance sheet is good enough to fund their projects with cash flow. The locals business will hold up in a recession. Great operators will benefit from the chaos.
Pioneer Natural Resources - PXD - $192 - I am not really a fan of the variable dividend stuff, but I have learned to tolerate it. I am a fan of how PXD is managing their acreage position. Value guys should be investing in natural gas at this time.
Helmerich & Payne - HP - $39 - When the going gets tough, invest in what you understand. There guys have managed their balance sheet conservatively for 40 years. They have the technology to do the complicated wells. The momentum guys are running for cover, and I suggest stepping up to oil services.
Best Place To Hide
Sysco - SYY - $75 - You cannot run a restaurant without Sysco. They have lived through the pandemic and inflation. There is a decent chance for some margin growth. I would rather own something more exciting, but for now I am sticking with safety.
Corteva - CTVA - $57 - I think the ag cycle still has some run. This stock has gone up a lot since it’s spinoff, but at 19x CTVA is still a good place to hide. There is plenty of upside here.
FMC Corp. - FMC - $118 - First you plant with CTVA’s seeds, and then you spray with FMC’s pesticides. We still need food, and the farmers have more cash than normal. These are smart guys with several interesting small venture investments. Remember FMC spun-off John Bean Technologies - JBT and Livent - LTHM.
Ingredion - INGR - $100 - On a good day INGR can be viewed as similar to International Flavor and Fragrances. Corn starch can be used for a variety of products. At about 12x earnings, and with little Wall Street excitement, INGR seems like a decent place to hide.
Philip Morris International - PM - $91 - PM has made a good start on making an incredible transition to a smoke free company. They are using 3 different products to reduce demand for traditional cigarettes. This is a difficult company to evaluate, but the 5.6% yield might limit downside risk.
Let’s think about a few alternative scenarios:
If I were not so concerned about a credit crunch I would remove the 5 “best place to hide stocks”, and add instead Brunswick, Williams-Sonoma, International Flavors, Scotts Miracle-Gro, and Elanco
If I were not so concerned about small caps I would remove Philips 66, Verizon, AJ Gallagher, Tyson, and Merck, and add instead, Ruth’s, Viad, Argan, RXO, and Oxford.
If I were a hedge fund guy getting 20% of profits I would remove Royal Gold, Novagold, Roche, Evergy, and ALLETE and add Macy’s, Empire Realty, Cullen Frost, Green Brick Partners, and M&T Bank.