Week 276 - Barron’s 500 Companies With Clean Balance Sheets and Improving Fundamentals

Situation: Stock market valuations are still in nosebleed territory. The S&P 500 Index is 25 times trailing 12-mo earnings. The cyclically-adjusted PE ratio is 27 times trailing 10-yr earnings, i.e., just shy of the last peak reached in October of 2007. You get the point, so you’re in “risk-off” mode. But you’re not going to save for the future by hiding money under your mattress. How should a prudent investor continue adding money to the market, knowing that a precipice looms? With dollar-cost averaging, an investor can add small amounts each month to stocks from several different industries, i.e., more shares per dollar when the market swoons. But which stocks? When you’re in risk-off mode, those need to be A-rated, large-capitalization stocks with improving fundamentals, and at least a 25 yr trading record.

Mission: Screen the 2016 Barron’s 500 List for companies that have improved in rank and have 25 yrs of quantitative data at the BMW Method website. Eliminate companies that don’t have a clean Balance Sheet (as defined in the Appendix for Week 271). Assess growth prospects by calculating Net Present Value (NPV) for each stock. For companies with Top 500 Global Brands, provide 2016 and 2015 brand ranks.

Execution: see Table.

Bottom Line: We’ve used a tight screen to come up with 10 companies worth dollar-averaging through a Bear Market. Three represent the Consumer Staples industry: HRL, COST, WMT. Four represent the Consumer Discretionary industry: ROST, TJX, NKE, DIS. There’s also one Industrial company (PH), an Information Technology company (ADP) and a Basic Materials company (APD). All but the 3 companies with strong brands (NKE, COST, ADP) are likely to fall in value as much as the S&P 500 Index in the next Bear Market (see Columns AC and AD in the Table). NPV calculations (see Column V in the Table) suggest that buying shares in any of the 10 companies would result in a greater gain after 10 yrs than buying shares in the lowest cost S&P 500 Index fund (VFINX at Line 18 in the Table).

Risk Rating: 4 (where 10-Yr US Treasury Notes = 1, and gold = 10)

Full Disclosure: I dollar-average into NKE and also own shares of ROST, TJX, HRL and WMT.

NOTE: Metrics are current for the Sunday of publication. Red highlights denote underperformance vs. VBINX at Line 17 in the Table. Purple highlights denote Balance Sheet issues and shortfalls. Net Present Value (NPV) inputs are described and justified in the Appendix to Week 256. Briefly, Discount Rate = 9%, Holding Period = 10 years, Initial Cost = moving average for stock price over past 50 days (corrected for transaction costs of 2.5% when buying ~$5000 worth of shares). Dividend Growth Rate is the 10-Yr CAGR found at Column H. Price Growth Rate for this week is the25-Yr trendline CAGR found at Column K (http://invest.kleinnet.com/bmw1/), done to emphasize “reversion to the mean”. Price Return (from selling all shares in the 10th year) is corrected for transaction costs of 2.5%. The Discount Rate of 9% is based on returns from a stock index of similar risk to owning a small portfolio of large-cap stocks, i.e., the S&P MidCap 400 Index.

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