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Coke in the Crosshairs: Bill Ackman’s Next Target?


Bill Ackman is known for having something of a nasty temper… and not responding well to criticism. His brawl with fellow hedgie Carl Icahn on live TV two years ago over Herbalife (HLF) might be the most high-profile fight among financiers in history.

Well, now Ackman is trading barbs with another long-term legend of the industry, Warren Buffett’s Berkshire Hathaway (BRK.A) partner Charlie Munger, over their respective positions in Valeant Pharmaceuticals (VRX) and Coca-Cola (KO).

Munger — who has never been shy about giving his opinions — called Valeant “deeply immoral” for raising the prices of its drugs. Ackman — who is heavily invested in Valeant at the moment — fired back by saying Berkshire’s investment in Coca-Cola is “deeply immoral” because it “does enormous damage to society” and “[displaces] the water children consume with sugar water”.

Ackman Isn’t Entirely Wrong

I don’t for a minute believe that Bill Ackman cares about the world’s children. And for that matter, I don’t know that Buffett or Munger particularly care all that much either. I’m not calling any of these men “immoral,” mind you. It’s just that none of them became billionaires by running a socially responsible portfolio.

That said, Ackman’s view on Coca-Cola and on sugary soft drinks in general is slowly becoming the “correct” consensus view. I wrote two years ago that soft drinks were the “new Big Tobacco” in the minds of investors and government regulators alike. The words that are used to describe junk food today, speaking of it as a public health menace, sound a lot like the words used to describe cigarettes 30 years ago.

So, given Ackman’s temperamental nature… and his tendency to back up his bluster with oversized short positions… might Coca-Cola stock be the next target for this high-profile activist investor?

My bet is no, or at least not right now.

Why Coca-Cola Stock Isn’t Doomed

Ackman’s attack on Coke — which is one of Berkshire Hathaway’s largest holdings — is more of a knee-jerk reaction to having his own top holding blasted by Munger. Think of it as the Wall Street version of two schoolboys trading “yo mama” jokes on the playground.

But there are deeper reasons why I don’t expect Ackman to make a major move on Coca-Cola, long or short. It’s absolutely correct that Ackman sees himself as an activist investor in the truest sense. While he hopes to make money in the process, in his mind he really is making the world a better place by punishing ineffective management teams and agitating for change.

Sometimes, he gets it wrong. Very wrong. This was certainly the case when he brought in former Apple (AAPL) executive Ron Johnson to turn struggling retailer JCPenney (JCP) around. Johnson was an unmitigated disaster that made a bad situation worse, and the blame ultimately falls on Ackman’s shoulders. But in Ackman’s defense, JCP was a mess, and the company really did need a radical shake-up.

It’s hard to make the same claim for Coca-Cola.

It’s not that Coke is lagging behind its peers or that it is being uniquely mismanaged. The company’s woes are a result of changing consumer preferences and lower soda consumption. The best move for Coca-Cola is to continue diversifying its product portfolio, and the company has been doing exactly that.

You also can’t really argue that Coke is being stingy with its shareholders. Coca-Cola stock is one of the highest-yielding stocks in the S&P 500, and it has raised its dividend for 53 consecutive years.

But what about Coca-Cola as a short candidate?

A Short Case for Coke?

Maybe. But when Ackman makes a large short, he likes to have that proverbial smoking gun. That was certainly the case in his short of Herbalife. While I think Ackman was wrong about Herbalife being a Ponzi scheme, the man did his research and even spent a small fortune on private investigators to prove his case.

While Coca-Cola might very well be guilty of selling sugar water to kids (and the rest of us), no one believes they’ve done anything that is illegal or anything that would cause the share price to fall out of bed.

I don’t expect Ackman to do much of anything with Coca-Cola stock, and I think that’s the right call for now. At the right price, I’d consider buying it, even given its growth issues. Tobacco stocks have been fantastic investments for a long time, despite their shrinking business, due to their attractive pricing and high dividend yields. So at the right price, you can still make a lot of money on the stocks of companies in terminal decline.

But today, Coca-Cola is not priced like a tobacco stock. In fact, it trades at a slight premium to the broader market. The best move right now is no move at all.

Returning to Ackman for a moment, the Pershing Square manager is having a rough year in 2015, down about 20%. But just last year, he was one of the best performing hedge fund managers in the world. If you believe that Ackman will right the ship, your best bet might be to buy his closed-end fund, Pershing Square Holdings (Amsterdam:PSH), which trades in Amsterdam.

U.S. investors should be careful here, however, as owning the fund can make your tax situation messy if you’re investing via a regular taxable account. So before buying, make sure you chat with your accountant or tax advisor.

Charles Lewis Sizemore, CFA, is chief investment officer of the investment firm Sizemore Capital Management and the author of the Sizemore Insights blog. He is currently long PSH.

Photo credit: Insider Monkey

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Take the Money and Run! 5 Stocks to Ditch


What goes up must come down. Those were the words Sir Isaac Newton used to describe the forces of gravity, but more often than not, those words also can be used to describe highflying momentum stocks.

When a momentum stock gets hot, valuation doesn’t matter — at all. Price becomes completely divorced from value. If you’re an aggressive trader, that’s OK. Your holding period is likely only weeks…or maybe even days.

But herein lies the key. You have to know when to sell. Because if you hang on too long, all of those outsized gains can disappear in a hurry, and you can be left nursing some nasty losses.

Consider the case of Chinese stocks. Between March and June, theDeutsche X-trackers Harvest CSI 300 China A-Shares ETF (ASHR) jumped by nearly 55%. By late August, it has given all of those gains back … and then some.

Today, we’re going to look at five stocks that have, at least until recently, been racking up significant gains. If you own any of them, I recommend you sell them, or at the very least, tighten your stop losses.

Sure, they could go higher. But at current prices, there’s a lot more downside than upside.

Netflix, Inc. (NFLX)

I’ll start with streaming content pioneer Netflix (NFLX). I love Netflix. I’ve been a customer for years, and I have nothing but respect for CEO and founder Reed Hastings. Hastings is a true visionary who was willing to effectively destroy his original business — renting DVDs by mail — to create something bigger, better and far more revolutionary: streaming movies and TV shows over the Internet.

Hasting and his team have fundamentally changed the way we consume content, and they’ve created fantastic original content of their own. I now spend far more hours watching Netflix than I do watching traditional TV. And they’ve managed to do all of this while charging their customers a negligible $7 per month.

But no matter how much I love the company, I just can’t love NFLX stock at today’s prices. Netflix trades for 7.5 times sales and 425 times next year’s expected earnings. Not surprising, given that the stock has more than doubled this year.

It’s hard to justify paying a premium like that for a stock with a $49 billion market cap. This is no longer a startup company, and subscriber growth — particularly in the U.S. — will start to trail off soon. And while Netflix is still light-years ahead of its competition (traditional cable TV) in terms of convenience and elegance, its competitors are not sitting still. Hasting recently admitted that “TV everywhere” apps were a budding competitive threat to Netflix.

Buy Netflix’s service. Sell its stock.

Chipotle Mexican Grill, Inc. (CMG)

Let’s forget about tech stocks for a minute and talk burritos.

Chipotle Mexican Grill (CMG) has been one of the great growth stories of the past two decades. Riding the wave of consumer tastes away from greasy burger joints and towards healthier “fast casual” dining, Chipotle has quickly evolved from an unknown burrito shop to an indispensable part of the American diet.

I love Chipotle. I eat there multiple times per week. And if I had a location closer to my house, I would probably eat there daily. I barely remember what my diet was like pre-Chipotle.

But as much as I love the burritos, I can’t say I love CMG stock. And it has absolutely nothing to do with the E. coli crisis currently catching the headlines. Given enough time, every restaurant will eventually have to deal with a food poisoning scare, and from the looks of things, Chipotle’s management is being exceptionally proactive in getting ahead of the crisis.

No, what concerns me is price. CMG’s performance is just -11% for the year-to-date, thanks in large part to a major correction around earnings and the E. coli scare. But investors in for a couple of years still are sitting on substantial gains, as well as an expensive stock that’s trading for 37 times earnings and 30 times forward estimates.

While that might not look exceptionally expensive compared to Netflix, it’s quite pricey for a restaurant. And CMG simply isn’t growing fast enough at this stage of the game to justify it. Last quarter, revenues grew at a 12% clip.

Buy the burritos. Sell the stock.

Buffalo Wild Wings (BWLD)

Along the same lines, we have former highflier Buffalo Wild Wings (BWLD). I say “former” because this former momentum darling has clearly lost its momentum. As recently as September, it was trading at over $200 per share. Today, it barely fetches $150.

But here’s the thing: I expect more downside to come.

This was a classic fad stock that rode the wave of popularly of chicken wings. Hey, I get it. Who doesn’t like eating a plate of chicken wings with a beer while watching a football game?

The problem is that this is now a saturated market. There is a beer-and-wing joint at every intersection, and there is nothing special or unique about Buffalo Wild Wings’ offerings that would distinguish it from competitors such as Wingstop (WING).

Meanwhile, BWLD is a very expensive stock. Even after the decline, Buffalo Wild Wings still fetches a P/E ratio of 32. Ditch this former highflier before its wings get clipped.

Tesla Motors Inc (TSLA)

Instinctively, I hate betting against a guy like Elon Musk. He’s one of the smartest capitalists walking the earth today, and I have a lot of respect for what he’s accomplished with Tesla Motors (TSLA). Just a few years ago, electric cars were “geeky.” They didn’t have cachet, and they certainly couldn’t compete with a Corvette in terms of performance.

Kudos to Musk for giving us an eco-friendly electric car that can go 0 to 60 in 2.8 seconds.

But no matter how impressed I may be with Tesla’s cars, I can’t quite get on board with the stock price. Tesla currently trades at a forward P/E ratio of 114 and at 8 times annual sales. To put that in perspective, BMW (BAMXY) trades for 0.7 times sales.

Yes, you read that right. Tesla is literally 10 times more expensive than BMW.

That’s ludicrous. Yes, Tesla is growing at a faster clip, and Tesla is more than just a car company. It’s also a maker of high-end batteries with a variety of uses. But anyone in their right mind credibly say that 8 times sales is a reasonable valuation when high-end rivals trade at a fraction of that?

If you like cool cars, buy a Tesla. If you want a cool stock that you can talk about over the water cooler at work, then I suppose TSLA is good for that too.

But if you want a stock that is likely to generate solid returns over the next few years, you should probably look elsewhere. Starting at today’s prices, it’s not going to happen with Tesla., Inc. (AMZN)

Next up is Netflix’s streaming competitor — and all-around retail champion — (AMZN). Last quarter, Amazon did something that took a lot of investors (myself included) completely by surprise. It actually turned a profit!

While Amazon’s revenue growth over the past 20 years has been incredible, it’s never really turned a profit. Founder Jeff Bezos has been more than happy to sacrifice profit margins in the interest of expanding his empire, and he’s done a fantastic job. Amazon has evolved from being the “Walmart of the web” to being a leader in digital video and music distribution and cloud computing. Along with Microsoft (MSFT) and Alphabet (GOOGL), Amazon is putting the screws to legacy rivals like IBM (IBM) with its Amazon Web Services.

The thinking has always been that the profits would start flowing once Amazon reached a critical size and wasn’t forced to plow as much cash back into its businesses. And that day might finally have come.

There’s just one problem. Investors have already wildly bid up the stock price in anticipation. Amazon trades at a forward P/E of 116. And while this metric might be a little skewed by Amazon’s thin profit margins, Amazon also trades for 3 times sales. To put that in perspective, Walmart (WMT) trades for 0.4 times sales.

I know, I know. Amazon is more than just a retailer like Walmart. It’s a revolutionary tech leader. I get that. But investors are still paying an exorbitant price for Amazon shares. Don’t get sucked in here.

Charles Lewis Sizemore, CFA, is chief investment officer of the investment firm Sizemore Capital Management and the author of the Sizemore Insights blog. As of this writing, he was long MSFT.

Photo credit: Ruben Carballo Troc

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Singing From the Same Songbook

Barron’s didn’t have much good to say about one of my favorite long-term stock holdings a few weeks ago (see “Thoughts on Kinder Morgan after the Barron’s Blast”).

But now it seems that we’re singing from the same songbook on two cheap turnaround plays: McDonald’s (MCD) and General Motors (GM).

I’ll start with McDonald’s. I started getting bullish on McDonalds in March (see “Dividend Smackdown” and “Musings on the McDonald’s Dividend”) and I bought shares of McDonald’s in my Dividend Growth portfolio in May. Wall Street was almost unanimous in its hatred of the stock, and the share price had barely budged since 2011.

In my view, the sentiment that McDonald’s was doomed to terminal decline was ludicrous. This is a company that has redefined itself multiple times over the decades, most recently about 15 years ago. And it’s been a veritable champion of shareholder friendliness throughout.

Let’s see what Barron’s had to say about McDonald’s:

From “McDonald’s Turns Around

After Mickey D’s released much better-than-expected third-quarter results on Oct. 22, the stock jumped 10%. The fast-food giant, with 36,000 restaurants around the world, reported that comparable sales at U.S. units were up 0.9%, the segment’s first rise in two years. Global comparables were up a robust 4%…

Howard Penney, an analyst at Hedgeye Risk Management, an independent research outfit, says McDonald’s is evidencing a turnaround that will continue, leading the stock higher. Only about a third of the 32 sell-side analysts following the Oak Brook, Ill.-based company rate its stock a Buy. That’s a useful contrarian indicator, but there are other, fundamental reasons to like the stock.

Restaurant companies fix themselves in the same ways, Penney says: “Slow growth temporarily, cut costs, and focus on the four walls.” That’s what McDonald’s has been doing since Steve Easterbrook took over as CEO last March, after years of corporate and stock underperformance. Prior to his arrival, the company had added dozens of new menu items and McCafé coffee offerings, increasing complexity in the back of the house and decreasing throughput…

Speculation is rife that the company will unveil a “McREIT” this Tuesday at an analyst meeting, but Penney’s view doesn’t depend on a real estate investment trust (REIT) structure. According to a recent report from Morgan Stanley, McDonald’s owns about 45% of the land and 70% of the buildings in its “consolidated markets,” which include 27,000 restaurants around the world. Roughly half of its operating income comes from franchise rents.

We’ll see about “McREIT.” We should know more later today.

Now let’s take a look at General Motors. I bought shares of General Motors

This is what Barron’s had to say about it (from “General Motors’ Revival is Here to Stay”):

Year to date, the stock is up just 2%, but should be up far more. Consider that Wall Street’s 2015 earnings consensus has swelled by 11% since the end of last year. The 2016 consensus has grown 16%. The chief worry among GM sceptics today is that profits are close to peaking. That looks unlikely, but the next downturn, when it comes, could actually improve long-term sentiment on the stock by demonstrating that the much-improved car maker can remain solidly profitable in good years and bad.

For now, GM (ticker: GM) looks likely to approach earnings of $6 a share by 2017, which would mark a three-year doubling. As that number comes into view a year from now, and as investors realize that GM’s new profitability is no fleeting fantasy, shares could hit $48, or eight times earnings, for a return of about 40%, including the dividend yield of nearly 5%.

I’ve said for a while that, come what may in the economy, auto sales are poised for a sustained rebound. The average age of cars on American roads is nearly 12 years. That’s the average of cars currently still in operation, not the average lifespan before getting junked.

But what if I’m wrong and new car sales really do continue to lag? As Barron’s continues,

Consider what GM’s profit statement would look like if the U.S. suffered a 25% decline in vehicle demand. It could look like it did in 2011, when the SAAR ended the year at 13.5 million vehicles. GM that year turned a $7.6 billion profit and reported EPS of close to $4. Results since then have been marred by a collapse in Europe and deep ignition-switch losses. But if $4 a share is the new bottom for earnings—or $3 a share, for that matter—the stock deserves a sharply higher price.

Disclosure: Long GM, MCD, KMI

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What’s Cheap…and What’s Not

Market volatility has been blamed on any number of factors this year; the China market meltdown, weakness in the oil patch and the never-ending speculation around when (or if) the Fed will ever raise rates being chief among them.

But there is one underappreciated reason for the market’s lack of direction this year, and that is valuation.

There is really no way to massage these numbers. Stocks are expensive by virtually any metric you care to choose. Back in September, I highlighted the cyclically-adjusted price/earnings ratio (CAPE), which smooths out the fluctuations of business cycle by taking a 10-year average of earnings. Well, based on that metric…stocks are priced to deliver returns of a rather pitiful 0.5% per year over the next eight years.

Don’t spend all of that in one place!

But while the overall market is expensive, perhaps pockets of value are out there. Using data from research site GuruFocus, I parsed the market into ten sectors and compared their current CAPE valuation to the high and low values of the past six years. I would consider any sector trading near the bottom of the range to be at least relatively cheap, while any sector trading near the top end of the range would be expensive.

So, how does it look?


We really have a mixed bag. With a CAPE of 31.0, Communication Services is the most expensive sector though it’s a fair bit cheaper than the 36.8 we saw in July of 2013. All the same, I would expect it to get a lot cheaper. Most of the stocks in this sector are cable TV and phone operators – two subsectors with very limited growth prospects in America.
Healthcare, with a CAPE of 30.2, isn’t far behind, and it’s not far at all from its all-time highs. Adam has been warning his Cycle 9 Alert readers to steer clear of this sector, and I agree. Yes, the sector is backed by strong demographics, but investors are simply paying too high a price for that growth.

The cheapest sector by a wide margin is energy, trading at a CAPE of 12.2. That’s scraping near its lows of the past six years. Of course, the energy sector is also getting roiled by the crude oil supply glut, and this sector is not without its risks.

Perhaps the most interesting sector right now is consumer cyclicals. At a current CAPE of 28.8, it might not seem particularly cheap. But remember, this sector was trading at a CAPE of 55.4 in late 2010, and the lowest it’s been over the past six years is 25.2. This is a broad sector that contains everything from automakers to bath towel retailers, so you’d want to pick and choose carefully. But in an otherwise expensive market, you might find some real gems.

Charles Lewis Sizemore, CFA, is chief investment officer of the investment firm Sizemore Capital Management and the author of the Sizemore Insights blog.

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October 2015 Client Presentation

I gave the following presentation to a group of clients this week. Enjoy!

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