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2017 ISSUES

August 2, 2017

 

Another good month in July

The S&P 500 gained 1.9% in July and Peattie Capital portfolios continued to outpace them as several accounts gained over 5%. For they year the S&P 500 has gained roughly 11% on a total return basis, and most Peattie Capital portfolios have gained in the low 20% range. One outlier on the high side has gained nearly 50%, but it is highly concentrated and not representative of how most portfolios are constructed. I attribute the outperformance to good stock selection.

Earnings season underway

So far this earnings season has been a good one for Peattie Capital names, highlighted by Align Technologies ("ALGN") which reported good progress in the teens category (still underpenetrated) on July 27. Shares of ALGN gained 10% on the news, and closed July above $167. Peattie Capital has recommended ALGN twice in the past 28 months, and subsequently shares have gained 189% and 157%.

Most estimates I've seen have 2017 S&P 500 earnings in the $130 area which would put the overall market at 19x. This is above the long term average, but my opinion is that an elevated multiple is acceptable given the low level of rates, and the steady (if underwhelming) economic growth (preliminary Q2 GDP was 2.6%).

In addition, Q2 earnings have been solid, with revenue growth roughly 6% for companies that have reported and earnings growth in the low double digits. The US dollar index has dropped approximately 8% year-to-date, providing a tailwind for US companies selling goods abroad.

The fear-inducing headlines (North Korea, Washington turmoil, etc.) are providing a nice "wall of worry" but I am far more interested in individual stocks which can "make their own weather", and so far the macro headlines have not derailed the overall market.

Still watching the Fed

In their most recent statement the Federal Reserve mentioned that they would begin shrinking their balance sheet "relatively soon". Overall, I would expect this to be a mild negative for the bond market, as their means of doing so would be to discontinue reinvesting interest and principal from their holdings...in other words there will be one less buyer of Treasury securities. However, there's really no telling the impact it will have and my view remains that absent an unexpected spike in rates it's "steady as she goes" for equities.

I am keeping a close eye on NASDAQ stocks as they tend to be more volatile and have had a meaningful run so far this year. In 1999, a year in which the NASDAQ nearly doubled, there were 40 trading days when the NASDAQ dropped more than 2% (Source: Barron's "The Trader" July 3, 2017). While 2017 hasn't seen anywhere near that kind of volatility, I continue to short individual securities for select portfolios to mitigate overall portfolio risk for them. Note that IRA accounts can't have margin, and therefore aren't allowed to short.

Surprising source of income

One notable news item for me was a comment about dividend income, which I would've thought came mostly from traditional equity income industries like utilities and telecommunications. However, according to David Rosenberg (July 31 "Breakfast with Dave") the leading dividend payers this year are technology companies ($17.3bn) followed by health care companies ($11.3bn). One name that fits that description to a tee in Peatte Capital portfolios is Broadcom ("AVGO"), which has appreciated 40% this year and also yields 4%.

Stock picking is still a good way to go

Peattie Capital believes that paying the right prices to own the right stocks is a good approach to the market. For some clients, depending on their specific characteristics, I might also overlay a tactical hedging program to protect against material downdrafts which might consist of boxing existing long postions, shorting, or raising cash.

For long term investors, I (generally) agree with Warren Buffett's comment that "All there is to investing is picking good stocks at good times and staying with them as long as they remain good companies." That is still the approach for most, not all, Peattie Capital clients as difficult as it is sometimes.

Here is an updated version of recent Peattie Capital recommended stocks, using closing prices from July 31.

This chart shows all PCM's recommendations for the past 31 months showing an average return of 28.3%. The total return of the S&P 500 in the comparable period is approximately 25%.

Additional recommendations are available on request. This table does not include speculative
and short sale candidates which are only appropriate for clients who have requested them.

PERFORMANCE OF PCM RECOMMENDED STOCKS

Date
Name
Ticker
Action
Price
Close
Gain
  7/3/16 Independence Holding IHC Buy $21.00 $22.20 6.0%
  7/3/16 Cogent Communications CCOI Buy $40.00 $41.75 4.4%
  4/3/17 CTrip CTRP Buy $49.30 $59.73 21.3%
  3/5/16 AMC Entertainment* AMC Buy $29.50 $20.40 (29.5%)
  2/5/17 Silver Bay Realty* SBY Buy $18.20 $21.50 18.1%
  2/5/17 DaVita* DVA Buy $65.00 $64.76 (0.4%)
  12/5/16 Abbott Labs ABT Buy $38.50 $49.18 29.1%
  11/3/16 Cogent Communications CCOI Buy $37.00 $41.75 16.2%
  10/5/16 AMC Entertainment* AMC Buy $31.50 $20.40 (33.3%)
  7/6/16 Monmouth Realty MNR Buy $13.40 $15.41 19.8%
  7/6/16 Broadcom AVGO Buy $151.00 $246.66 65.7%
  7/6/16 Wells Fargo Pref L* WFC/PRL Buy $1340 $1305 (1.2%)
  6/2/16 Veeva Systems VEEV Buy $33.65 $63.76 89.5%
  4/5/16 LSB Industries* LXU Buy $12.35 $9.75 (21.1%)
  4/5/16 Marine Harvest MHG Buy $15.50 $18.60 29.9%
  3/3/16 KVH Industries* KVHI Buy $9.25 $9.06 (2.1%)
  3/3/16 Howard Hughes Co. HHC Buy $99.00 $125.81 27.1%
  1/6/16 Align Tech ALGN Buy $65.00 $167.23 157.3%
  11/2/15 ViaSat* VSAT Buy $65.50 $66.20 1.1%
  9/2/15 Google GOOG Buy $590 $930.500 57.7%
  8/4/15 DexCom, Inc* DXCM Buy $85 $84.20 (0.9%)
  7/2/15 Cogent Communications CCOI Buy $32.50 $41.75 37.9%
  6/2/15 Express Scripts* ESRX Buy $86.00 $81.55 (5.2%)
  5/4/15 Align Technology ALGN Buy $59.00 $167.23 183.4%
  3/4/15 Sabre Corp* SABR Buy $21.60 $26.57 25.5%
  2/5/15 Cogent Communications CCOI Buy $38.50 $41.75 18.2%
  1/5/15 Monmouth Realty MNR Buy $11.60 $15.41 46.4%
   
 
NOTES: Gains include dividends. All numbers are unaudited.
The risk of loss always exists, and past results
are not necessarily indicative of future results.
*Position sold at manager's discretion

Recommended stocks: Heico ("HEI") and Broadcom ("AVGO")

Heico ("HEI")is a $6bn market cap parts supplier for the aerospace and defense industries. It operates two primary divisions, the Flight Support Group ("FSG") division which is roughly 60% of revenues and the Electronic Technologies Group ("ETG") which generates the balance. The ETG group focuses more on specialty niche products, and income grew 28% in 2016 compared to 9% for the FSG group.

The airplane components industry has grown 5% per year for the past 50 years and as the low-cost provider, HEI has grown revenues and earnings 16% and 18% (compounded annual growth rates) respectively since the Mendelsohn family took over in 1990. Even with this remarkable growth, HEI's market share is only 5%, so there is plenty of runway (get it? Airplanes? Runway?) to continue growing. The Mendelsohns currently own 8% of the shares, but control 15% of the voting rights due to a split share structure.

In addition, HEI has FAA approval on nearly 10,000 parts on nearly every large commercial aircraft in production (Source: company documents), and a perfect track record of never having had any parts fail. As such, they have become a "go to" supplier for 19 of the world's 20 biggest airlines. According to Boeing's 2016 annual report, airline traffic is expected to grow 4.8% annually for the next 20 years, and the company believes the aerospace and defense industries will grow "significantly faster" than US GDP over the long term.

One noteworthy aspect of HEI's model is that it is a frequent purchaser of smaller, "tuck-in" businesses and all else equal I would prefer to see organic growth. However, HEI only purchases companies with strong returns on equity and also leaves existing managements in place so overall I can live with this approach.

HEI pays a small (and growing dividend), has very little Wall St. coverage and is underowned. I think the company has a very bright future and I recommend buying shares up to $73.50.

Since I recommended Broadcom ("AVGO") last July, shares have returned 65%. I think Hock Tan's formula for success is still in place, with the Brocade acquisition scheduled to close shortly. AVGO earnings are expected to grow 35% (ish) this year, and yet shares are only trading at roughly 15x. It also pays a nice dividend. I recommend buying shares up to $250.

Please don't hesitate to contact me with question or comments and just let me know if you'd like to be removed from distribution.

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July 3, 2017

 



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May 2, 2017

 



April 3, 2017

 



March 3, 2017

 



February 3, 2017

 



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