Hey Bow Tie Nation, Joseph Hogue here with Let’s Talk Money and IT IS TIME to start thinking about your 2021 investing plan!
I know it sounds early with still two months left in the year, uncertainty around the election and the market down on stimulus talks but right here, right now is your best opportunity for finding those stocks to buy that are going to lead to market-busting returns next year.
In fact, in this video, I’m rolling out our 2021 Bow Tie Nation portfolio. A stock portfolio I’ll be tracking all year to beat the market and I’m adding the first five stocks today.
I’m also going to reveal the biggest disconnect in the market right now and how I’m using it to position in these stocks for next year and beyond.
We’ll be tracking the portfolio on Stockcard.io a great research tool I’ve been using lately that makes it easy to find stocks to buy. One of my favorite features on Stockcard is the ability to publish my portfolio here in the Portfolio Store. Follow the portfolio on the site and you’ll get advance notice whenever I buy or sell a stock, even before the video comes out.
It’s free to follow the portfolio but as a bonus, I’ve negotiated a deal for those of you in the Bow Tie Nation. Sign up using the promo code bowtienation and you’ll get an extra 10% off beyond the two-week free trial and other discounts. So look for the link to that 2021 portfolio below and that promo code bowtienation.
How to Invest for 2021
So Nation, one thing we talked about in last week’s livestream is investing around a narrative. Now a narrative is just how the market is taking all the news and information to build a story around stock prices. Then, your job as an investor is finding where you believe that narrative is wrong.
This is really the only way to beat the market and it’s where I spent the majority of my time as an analyst, investing in what the market doesn’t see yet. It’s that old saying, be fearful when others are greedy and greedy when others are fearful.
And to see that market narrative, the story investors are building into stocks, I like to look at the returns to the individual sectors. Here we see the 2020 returns on each of the 11 stock sectors plus the S&P 500 market index.
And overall, the broader market has bounced back spectacularly for an 8% return this year which is really amazing in itself!
I mean, if you would have said in March when the market was down 35% from its peak that we could be at an 8% gain by October, even with 900,000 people still filing new unemployment claims each week…I would have said you were batshit crazy…but here we are!
But taking that and what we’ll see in some of these sectors, the market is really saying that the economy isn’t too bad off, that the market is expecting a continuation to the economic recovery.
Now a lot of this is on the back of historic levels of government help, from the $3 trillion-plus CARES Act in March to the $4 trillion money-printing program by the Fed.
And in fact, part of that market narrative is telling us it expects more stimulus in the future because look at these top three sectors; communication services, consumer discretionary and tech stocks, that’s returns of 14% to 33% on the year. While the communication services and tech stocks have both benefited from the lock-down, there is no way in hell consumer discretionary stocks should be doing that well if the market doesn’t see rosy days ahead for the economy.
The Biggest Disconnect in the Stock Market Right Now
And this is where I see the disconnect that we can take advantage of for our 2021 portfolio.
Let’s look at those two worst-performing sectors; energy and financials. Stocks in the financials sector; so banks, insurance companies and services are down 20% this year. And that drop of 49% in shares of energy companies is unprecedented.
Now the loss on financials is from two factors but all related to one theme. First is the fact that banks have been moving billions of dollars from their earnings to a special cash account called loan loss provisions. This is where the banks hold cash reserves in case loan defaults get really bad in a recession and just the top four banks have moved $20 billion into this account in the first half of the year. That money is taken off earnings so the profits of bank stocks have been obliterated as they build up these reserves.
Another factor in financials is the yield curve, this is the interest rate for US Treasury bonds of different length from one-month to 30-years and it’s off these rates that all other interest rates are set. And you can see that the curve is really flat, the interest rate of 1.5% for 30-year treasuries really isn’t that much higher than the six-month or two-year rate. It looks steeper here only because how the graph is set up but that’s only a difference of 1.3% from the three-year to the 30-year.
That makes it really difficult for banks to make money because they’re paying those short-term rates on deposits and collecting the long-term rates on loans…but there just isn’t much of a difference. Banks make money on the difference in interest rates and it just isn’t there right now.
Let’s look at energy then I’ll explain how this is a huge disconnect in the market and show you those five stocks I’m buying.
The problem in energy is of course the apocalyptic drop in demand for gasoline and jet fuel. Air travel dropped to zero and is still down by more than half compared to last year. Energy demand for industrial use and drivers is also way down. And while supply has come down a little, oil companies have pulled back on their production, it just hasn’t come down enough.
You see here a chart by the U.S. energy information administration, with the blue line is global oil and gas production and the brown line is consumption or demand. That demand is expected to plunge 8.5% this year, that’s the equivalent of the world needing 8.6 million fewer barrels of oil a day. Supply, for it’s part, is expected to fall just 6% this year. So the EIA here expects global oil companies to reduce their production by just 6.1 million barrels of oil per day.
So that’s two-and-a-half million barrels a day the energy companies are pumping out that isn’t being used and oil prices have cratered because of it.
Now we get to the disconnect though and for patient investors, I think this is where you can really make some money.
If the market is telling us the economy isn’t in bad shape. If we’re expecting more stimulus eventually and all these other sectors like consumer discretionary are doing well, then energy and financials should not be in this much trouble.
For example, if we do get more government spending, pushing more money into the system, then we’ll see more consumer spending, more inflation and more demand for loans. That’s going to do two things for the financials. First is we won’t see nearly the amount of loan defaults as the banks have been planning on with that loan loss provisions account. Some of that $20-billion plus that has been moved into those accounts can be brought back into profits to surprise on the upside.
Second though is all that economic activity and inflation could mean a surge in long-term interest rates. The Fed has already said it won’t be raising short-term rates for years so if we get long-term rates to move higher, that’s going to mean booming profits for the banks.
On the energy side, how do you get a growing economy without higher oil demand and prices? It just doesn’t happen. Going back to that graphic, the EIA expects oil demand to jump by six-and-a-quarter million barrels per day next year while producers are only expected to increase supply by 4.25 million barrels. That would put us into a deficit and push those prices back up.
Stocks to Buy for 2021 Returns
So that’s the market narrative and the disconnect we’re looking at. If you think the market is right that the economy is recovering then these two sectors should not be doing as bad as they are and could be the turnaround stories of 2021!
Bank earnings were disappointing last week but I like shares of Citigroup, ticker C, for that rebound in financials.
Now I’m not saying things can’t get worse for banks or that the shares are going to explode higher immediately but it’s hard to argue with the valuation on this stock. Here is a global leader in financial services trading for half its book value and paying a 4.7% dividend yield. Even if it takes three years for banking to rebound and the shares to recover their 2019 high, that would still be an annualized 27% return.
Citigroup beat third quarter earnings estimates by 50% last week and management has a history of destroying expectations. I think the $5.73 per share next week, already an increase of 45% on this year’s profits, I think that can easily become $6.80 in earnings and makes this one of the best stocks to buy right now.
Analyst price targets range from $45 a share on the low end to as high as $102 each over the next year and a potential 47% return to the average target.
Our first energy stock to buy is Diamondback Energy, ticker FANG, one I highlighted in a video about earnings surprises last week.
Diamondback has aggressively cut rigs to bring costs down and protect cash flow. Capital spending is down 35% from its original 2020 plan and operating costs are looking really good. Management reported cash operating costs of just $8.16 per barrel in the second quarter, which was among the lowest in the industry. Those costs came down 20% in the second quarter alone and should help to beat this quarter as well.
The lower costs have helped management commit to its $1.50 per share dividend for a 5% yield and the company is one of the best positioned for an eventual rebound in oil prices.
Diamondback is also one of the few producers to remain profitable through all this and beat expectations by an outstanding 800% last quarter. The company reported a profit of $0.15 per share versus the $0.02 per share analyst estimate. Earnings are expected 31% higher next year to $3.25 per share and to just continue to grow from there.
Analyst targets range from $44 on the low end to as high as $65 per share over the next year. That doesn’t mean it can’t come in under that range but that’s a huge vote of confidence for the shares.
Our next pick is another energy producer, $3.5 trillion Devon Energy, ticker DVN.
And for these two names, Diamondback and Devon, it’s really that blood in the streets pricing, right? You’ve got great companies with very strong financials, certainly strong enough to survive until the price of oil recovers, both trading for bargain-basement prices.
So again, if you can have the patience to wait maybe a year or even two at the most, I think you can get high double-digit returns on these plus a solid dividend yield while you wait.
Devon has nearly $1.5 billion in cash sitting on the balance sheet, more than twice its current liabilities so a sound financial position.
Despite dropping into negative earnings last quarter, the company still beat the market estimate by 30% and is expected to return to profitability by the first quarter. Shares traded for 25-times on a PE basis before the February crash and should get back to that level of earnings in 2022.
Analyst targets are for a low of $13 per share to as high as $20 each which would be a potential 114% return on the current price.
That gives us our energy and financials exposure to the portfolio and I’ll be adding more stocks in the future so make sure you’re following the portfolio. I also want to add two more stocks here that I think could do really well over the next year.
Even with this year’s weakness, shares of Uber are up 21% since recommending it last December, and I’m adding Lyft to our portfolio for a lot of the same reasons.
I think the trend to on-demand transportation comes back strong next year and helps push the shares higher. Before the pandemic, Lyft booked annual sales growth over 100% over the last three years.
There’s plenty of upside for both Uber and Lyft here but the fundamentals are pushing me in favor of the smaller company right now.
Lyft has a much stronger balance sheet with $2.8 billion in cash versus just $1 billion in debt, so a net cash balance sheet, compared to Uber which is cash negative with $9.6 billion in debt and $7.8 billion in balance sheet cash. That’s not saying Uber is in any existential danger, just that I like the financial strength of Lyft better right now.
Shares of Lyft are also much more attractively priced at just 2.5-times sales, almost half the cost of shares of Uber with a stock price of 4.7-times annual sales.
Lyft did miss sales estimates for the second quarter but were able to beat on the bottom line earnings which tells me management is making the hard decisions necessary to cut costs. Demand picked up meaningfully through June and I think the worst is baked into the shares.
Revenue is expected back up to a billion a quarter by third quarter next year and management still believes it can reach profitability by Q4 2021 which would be a big sentiment boost for the shares.
Analysts have price targets for Lyft from $30 per share on the low end to as high as $66 each over the next year and an average estimate for a 64% upside from here.
Those of you in the Nation are probably tired of hearing me talk about CVS Health, ticker CVS, but I really like this one as a rebound play.
CVS is uniquely positioned in healthcare with over 10,000 stores, it’s insurance and pharmacy benefits segments and MinuteClinic offering. This allows it to control just about every step of the healthcare distribution chain from consultation to pharmacy and payment.
The company is rolling out a HealthHub concept next year with 1,500 stores for quick health screening and all of this builds into the idea of bringing people into that system and then keeping them there every step of the way.
CVS beat earnings expectations last quarter by 37% and is expected to post $6.40 in per share earnings over the next year. That’s 21% lower than last year on weakness in its retail sales but with the company’s history of beating estimates by a wide margin, I think it could match last year’s earnings. The shares are historically cheap at under 10-times on a price-to-earnings basis and the stock pays a solid 3.4% dividend yield.
Analysts have price targets from $61 on the low end to as high as $104 each over the next year, so pretty much consensus for positive returns going forward.
Don't forget to follow the new Bow Tie Nation portfolio on Stockcard and get your 10% discount. These stocks have the potential for huge returns in 2021 and buying them now gets you in front of the crowd.