The Disaster That is GE with 3 Alternatives

Last week, I had the pleasure of joining the Nightly Business Report hosted by two CNBC veterans, Sue Herera and Tyler Mathisen. You can find the segment at the 22 minute mark HERE. This is one show I always enjoy as I am the only guest in the segment and they let me articulate my point. On this particular evening, GE’s dividend cut was the big story of the day and that spilled over into dividend paying stocks in general.

Before I continue, long time readers know I rarely spend much time discussing specific companies unless they are true bellwethers and I think there is a tie or correlation to the stock market. This piece is obviously different from most and if interested, please do your own due diligence.

For all of this century I have taken the negative (bearish) side whenever interviewed regarding GE. It had become an old, stodgy company whose best days were clearly far behind. When Jeff Immelt succeeded “Neutron” Jack Welch, that was the straw that broke the camel’s back. While I thought Welch needed a lesson in ethics and morality, I never thought Immelt was even competent to hold that much coveted position. Welch delivered results which is probably why no one targeted him, while Immelt was a complete failure.

Anyway, except for buying GE bonds for some conservative clients in 2009, I have pretty much avoided the stock altogether. There were always better opportunities elsewhere. Earlier this year, Jeff Immelt retired as CEO and subsequently left the board of GE last month. His successor is John Flannery. Flannery has been unusually candid and blunt about GE’s troubles, including its cash flow. As everyone knows, GE cut its dividend by 50% and I believe that’s only the third dividend cut in the company’s history.

The dividend cut was a surprise to no one. Then Flannery pre-announced weaker earnings along with his turnaround plan. I thought investors would be a little comforted by this, but the magnitude of the decline in the stock after the news took me by surprise. The stock experienced a capitulatory, mini-crash on insanely high volume as you can see below.

When there are major shakeups at companies, new management often does a “kitchen sink” quarter where get all of the bad news out and then some. Anything that could possibly go wrong, they disclose, warn about and blame their predecessors. Then when everything doesn’t go as bad as forecast, new management gets to be the hero. In GE’s case, it almost feels like a “kitchen sink” year coming in up 2018.

GE has plenty of problems and then some. While I applaud Flannery for announcing a plan in the first place, he has his work cut out for him. And investors are not convinced. One of my close friends who runs a value fund boldly said to “stay away” as GE’s pension liabilities are overwhelming. On the flip side, one my colleagues just started nibbling on the stock with a plan to add more over time.

My view is that stock collapses like this are not repaired overnight. They usually take months or quarters and sometimes years to settle down and stabilize. Once a bottom (notice I did not say THE bottom) is reached, a stock usually enters a volatile and intermediate to long-term trading range where the bulls and bears battle around an equilibrium point until the light at the end of the tunnel is seen. In GE’s case, it could be in the mid teens to low 20s for a long time to come as you can see one potential scenario below. For the nimble traders, buying weakness and selling strength may be a good strategy until proven otherwise.

I don’t believe GE is a bellwether for the stock market, the dividend paying sector or large/mega cap value stocks. GE has its own idiosyncratic issues. Two ways to spot potential dividend cuts are to first watch how the stock trades. Sustainable dividend companies usually do not look like me skiing downhill on the weekends. That would be fast at a 25 to 40 degree pitch. Additionally, investors can track what’s called the Payout Ratio which is nothing more than the dividend of stock divided by the earnings. The higher the Payout Ration, the harder it is to sustain. While there is no hard and fast rule, especially when it comes to utility companies, 50% or less is an okay line in the sand. For all of 2017, GE’s stock warned and warned until the company listened.

At the end of Nightly Business Report segment, I tried to squeeze in three dividend stocks which look attractive. US Bank, Pfizer and Brinker (owner of Chili’s restaurants) which yield 2.3%, 3.6% and 4.3% respectively. All three have Payout Ratios under 50%. None look like a ski slope although Brinker certainly saw its collapse and now appears to be emerging from the ruins as GE has a chance to do down the road.

US Bank looks to be under reporting earnings which may seem counter intuitive. As my colleague Jim says, they appear to be reserving too much for bad loans which don’t seem to be coming to fruition. Eventually, that money will manifest itself in higher earnings.

Pfizer, unlike many other large pharma companies, has no major drug coming off patent so there is no “fiscal cliff” on the horizon. The company is in an excellent capital position and the value may be in the individual assets, either in a spin off or sale to fully recognize their more cutting edge divisions in biotech. For full disclosure, certain clients own this company.

Brinker which fell on hard times as the casual dining sector has really slowed is a cash machine with a price to earnings ratio of only 13. Although the P/E can always get even cheaper, that’s a good value with that high dividend. The company could be appetizing as a buyout candidate or . For full disclosure, certain clients own this company.

As always, please do your own homework and/or consult your financial advisor. Don’t just take my word. Managing the downside is key and you absolutely need a plan if things don’t go your way. Riding any stock to oblivion isn’t a plan.

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Bulls Running Like Pamplona

This is looking more and more the running of the bulls in Pamplona. They just stampede anyone and everyone in their way. After the two strongly positive seasonal trends ended after the first week of October, there was sufficient evidence that stocks were due for a pause to refresh or modest, single digit pullback. That’s what I was looking for. Nothing big. Nothing significant. Nothing really actionable. Just your garden variety reset.

Stocks came out of the gate to the upside on Friday after what I kiddingly referred to as a one day bear market on Thursday. All of the major stock market indices are at or essentially at all-time highs. Bears can’t argue with that. My four key sectors are also acting very well with semis and banks at new relative highs with transports and discretionary catching up. In recent weeks, I wrote about the poor behavior by the banks, but that is changing today.

High yields, while not leading and looking a little lifeless, are still just a day or two from all-time highs. The NYSE A/D Line is also just a whisker from new highs. On the other hand, defensive sectors, like utilities, telecom and staples are the worst sector performers. For the first time since Q1, bond yields look they could break out to the upside and see the 10-year note head above 2.6%. That would be a huge tailwind for banks and signal that the economy may be heating up.

Stocks should end the week on a high note. Interesting how GE reported awful earnings yet again and the stock opened sharply lower by more than 5%. As I type this, it’s trying mightily to turn green on massive volume. If that 4%+ dividend is safe…

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Flash Crash II – HFT and Computers Run Amok… AGAIN

Well that was certainly fun on Monday! Stocks crashed 1100 points at the open, rallied 800 points and the fell almost 300 points to close down 588 points. Given yesterday’s full Street$marts edition and the two blog posts I did here, I am sure most people were expecting a market update. After all, I did offer 3 Scenarios for Monday’s Trading and the market did end up following scenario number one the most. I will get to the market in a subsequent post. Of note, almost every single interview I saw and comment I read called for “staying the course” or not selling. I guess those were the same folks who told investors that all was well over the previous few months as the major indices peaked. Hmmm…

It’s not a topic I often mention, but from my seat, the system was clearly broken in the first half hour and the computers ran amock. It was beyond embarrassing and ridiculous, AGAIN. Just like we saw in May 2010, this was a second Flash Crash. NYSE and NASDAQ? Goldman Sachs, Citadel, Merrill Lynch and Virtu? You can hear crickets from the cats who ate the canary.

As someone who had forecast and was positioned for the correction, I was chomping at the bit to deploy some cash. Without any widespread firsthand knowledge, I believe that High Frequency Trading or HFT was responsible, not for the whole stock market decline, but for the quick acceleration and pricing dislocations or anomalies. Remember, HFT thrives when markets are volatile and liquid. Not so much in quiet and less volatile markets.

What I did see firsthand was enough small orders of less than 100 shares early in the day to make me believe that the computers were out of control as one of the footprints of HFT is odd lot trading or orders less than 100 shares. Let’s add in the outrageous pricing in the opening few minutes that went away quickly enough that I couldn’t even finish getting my orders in the que to execute. A little sour grapes perhaps? Absolutely, but there was also something very wrong with our markets.

As the day began and I was glued to my screen, I noticed that XLV, a healthcare ETF was in free fall, showing an opening loss of 6% which almost immediately became 20%. These are not high flying micro cap technology stocks that don’t trade volume. These are the most liquid stocks in the healthcare field. Johnson & Johnson and Pfizer account for almost 18% of the ETF. Memories of May 2010 and the Flash Crash immediately came to mind. I quickly checked IBB, a biotech ETF, and saw similar but not as dramatic weakness. That was clue number two as biotech is almost always more volatile than XLV and should have been down more.

xlv2

You can see what I am talking about in the chart above. XLV opened down 6% and quickly collapsed to down 26% at the bottom of the green candle right after the tall red one. Minutes later, XLV was trading at $69 or 20% higher. That’s not only abnormal, but shows a system not functioning like it was supposed to. And during this brief period as you can see above, volume was enormous, another hallmark of HFT.

I started looking at random large cap individual stocks both in and outside the healthcare sector and saw some truly astounding pricing dislocations in my opinion. Again, these stocks should not have fallen 20% in a matter of a few minutes. None had company specific bad news. GE, JP Morgan, CVS, McKesson and Verizon to name a few. I have not done a lot more research since then because I don’t think it’s worth the effort at this point, but I know from speaking with colleagues and peers that it was widespread in the ETF space. Just look at VHT, also in the healthcare space, below.

vht

I am not big crier of injustice and “demander” of government intervention to fix our problems, so you won’t find me flooding the SEC with calls and emails or creating a grassroots campaign to do so. I won’t be surprised, however, if the SEC does open a formal inquiry into Monday’s opening of trading as another Flash Crash did occur. While my clients may have lost an opportunity, there were thousands of investors who were likely stopped out of their positions when they should not have been, costing them untold amounts of money.

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