This article was originally published on Forbes
December 15, 2016
As we approach the end of 2016, I continue to be very optimistic for US equities. We have seen real, measurable market-related improvements for some time—far earlier than November 8th, for that matter. Although it seems so long ago, prior to the presidential election the US economy and equity markets had firmly turned the corner, by my estimates. Earnings are strong. The labor market continues to improve. The Fed has concurred, raising interest rates for the first time since last year. Prior to the election results, Wall Street was developing favorites, like financial services. For example, banks reported brightened earnings that reflected a return to basic banking business. They had finally emerged from the scourges of 2008 that involved regulatory fines, lawsuits, and just plain bad decisions involving non-core business practices. Of course, with a brighter growth picture, there is the potential for higher inflation and increased interest rates. But under this scenario banks should perform even better, since their net interest margins would improve.
In spite of improving fundamentals, many investors are completely puzzled when they try to build a “president-elect factor” into their market outlooks, which is a challenging charge. The great uncertainty surrounding Mr. Trump’s future actions deeply complicates the picture. And we are so early in the cycle that positioning a portfolio to accommodate Trump’s presidency would be pure speculation anyway. Common sense dictates that it is highly likely that some nominated cabinet members will have gone through a long, protracted confirmation process, given the current level of debate over some of the nominees. It seems to me that policies may take a considerable time to become reality under the new president. Thus building a portfolio that is Trump-focused is premature. So in the meantime, how are we to pick stocks going into 2017?
I like to use a “baseline appeal” to my logic, and work from there. I build my baseline by identifying stocks that already have advantages in the current market—stocks that are well-positioned given today’s economics. Then I rank the stocks based on their potential to benefit from certain of Trump’s projected policies. I call that the “potential policy lift.” That way, if the policies don’t play out, I still own stocks that should do quite well on their own anyway. Given the positive tone of the economic backdrop, there are many stocks I find appealing in their own right. Here are some stocks worth considering, based on their current baseline appeal, and their potential policy lifts for next year:
For banks, consider Keycorp (KEY, $18/share). This Midwest retail and commercial bank has rallied sharply since the election, yet I still think there is gas in the tank.
The baseline appeal: KEY is intent on expanding its footprint, and bought First Niagara as part of that plan. Merger-related savings, combined with net interest margin expansion, and overall revenue increases could generate attractive earnings growth over time. Even though the stock’s P/E is at the high end, its P/E to earnings growth ratio of 1.7 is quite reasonable given the strategic focus.
Potential policy lift: If Trump boosts infrastructure spending and domestic manufacturing, KEY could benefit from increased lending activity. Additionally, if banking regulations are revised, the company would benefit from such relaxed regulations.
I also like ConocoPhillips (COP, $52/share). This large oil exploration and production company has recovered nicely off its five year low of $32, and I think there is potential for a higher price in 2017.
The baseline appeal: COP has recognized it must adjust to lower oil prices by taking nimble steps that are unusual for a company of this size. The company is selling off assets, paying down debt, buying back shares, and focused increasing the dividend. This is all re-centered around a $50 oil price.
Potential policy lift: Trump has made statements supporting conventional energy companies. This might lead to regulatory relief in a number of energy-related areas, thereby boosting US demand for fossil fuels. COP could benefit from such policy changes.
Lastly, I have my eye on the healthcare company United Health Care (UNH, $160/share). To insulate itself against the operating risks, UNH has wisely diversified into other strategic health care segments.
The baseline appeal: UNH is positioned superbly against the competition. Over time the company shifted to higher margin business divisions such as healthcare information technology and pharmacy benefit management services. Its OptumRx division boasts the third largest market share in prescription processing. By focusing on simpler, higher-growth segments, UNH is well positioned for increased earnings.
Potential policy lift: President-elect Trump has signaled intentions to revamp the Affordable Care Act. Decreased regulation in the market should add an additional boost to an already-improved positon for UNH.
We are all trying to figure out what 2017 will look like. In the meantime, don’t let the speculation get in the way of common sense analysis. Using the baseline appeal approach will guide you through the next presidency and beyond.
Disclosure: FTC owns KEY, COP, UNH. The general nature of this article has not been tailored to any particular investor’s need. The opinion of the author is as of the date of this article and subject to change.