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The Trump rally has come in two phases, with an initial burst of optimism after the election and another run higher since Inauguration Day.
But has hope for tax reform and fewer regulations taken the market as far as it can? Investors are starting to get skeptical about the prospect for economic growth this year and the market is struggling to make new highs.
When the reality of a slow process for the President’s business agenda sets in, investor caution could turn into a full-blown rout. On the other hand, you don’t want to miss out on further gains if improved business sentiment turns into a rebound in corporate profits. That could quickly legitimize the rally and send shares even higher.
Fortunately, I’ve found one segment of the market that can offer both protection from a selloff as well as participation in further gains. This dual protection makes them some of the best stocks to own in 2017.
Is The Trump Rally Over?
The Trump rally has taken stocks to all-time highs but has really come in two phases.
The first, from the election to mid-December, gave investors new hope in a business-friendly environment and a 6% bump in asset prices. Shares traded sideways after that as the market fought to protect gains against the fact that no policy changes could even be implemented until a new administration took over. Stocks have resumed their run higher with a 3.5% gain since the inauguration on the hope that fiscal stimulus and deregulation can get underway.
Lofty valuations and fear that those changes from Washington may take longer than expected are starting to weigh on the market once again. Confidence that the new administration will be able to push through reforms and a tax plan have been shaken with the scandal that led to the resignation of President Trump’s national security advisor pick.
The push to higher prices from optimism for faster economic growth has come up against the pull lower by valuations and uncertainty. This has left even some of the smartest stock pickers scrambling to figure out the best stocks to own in 2017.
Fourth-quarter earnings for S&P500 companies have grown at 4.6% on a year-over-year basis, with 88% of companies reporting as of February 17, the first time the index has marked two consecutive quarters of growth since the first quarter of 2015.
Investor sentiment may have taken stocks as far as they can go. The S&P 500 is trading at a 12-year high on a forward P/E basis, with stocks trading for 17.6 times expectations for earnings over the next four quarters. Higher asset prices may now need a real pickup in GDP growth and delivered reform to continue their march higher. If this doesn’t happen then we could soon see the beginning of the market correction many have been predicting.
How To Invest Now For Safety And Upside
Enter the blue-chips, those large-cap companies with strong brands and decades of financial history to offer relative safety in an uncertain market. These companies are stable enough to have consistent cash flows that will continue to reward investors with dividends even if the rest of the stock market hits a rough patch.
Looking for value within the group means investors can also benefit if the broader market pushes higher, lifting prices for those that haven’t participated in the rally.
It’s important to diversify across sectors when looking for the best stocks to own. In 2017, like the end of 2016, gains have been broad-based, and a correction could be just as generalized. Investors may want to position in blue-chip names across multiple industries to benefit from an extended rally while protecting from overall market weakness.
United Technologies (NYSE: UTX) is a $90 billion-market-cap, diversified conglomerate in aerospace that builds components and systems. In 2015, the company sold its Sikorsky helicopter business for $9 billion in late 2015 in a streamlining move to focus on its four remaining segments. Nearly half (44%) of sales come from after-market services which helps to smooth cyclical cash flows.
Shares trade at 17.0 times trailing earnings, well under the industry multiple of 20-times and slightly below the company’s five-year average multiple of 17.4 times earnings. Earnings are forecast flat in 2017 but the company has regularly beat estimates. My target price of $120 per share is about 18-times forward earnings for a 7% gain on top of the 2.28% dividend.
Hanesbrands (NYSE: HBI) has been caught in the general weakness in apparel retail but the $8 billion underwear maker has a strong brand in a segment that customers will always need. The company is a cash machine, generating over $500 million in free cash annually and returning $547 million (6.9% of the market cap) to investors through the share buyback and dividend last year.
Shares trade for just 11.3-times earnings against an industry average of 19.7-times and a five-year average of 22.9-times for the company. Expectations are for 6% earnings growth in 2017 to $1.97 per share and shares could reach my target of $26 each on a multiple of just 13-times earnings.
CVS Health Corporation (NYSE: CVS) has been pulled lower on fears of changes in drug pricing that could affect its pharmacy benefit manager (PBM) segment but the $84 billion company is one of the most trusted names in pharmacy retail. The ability to process more than 1.3 billion prescriptions at 10,000+ retail pharmacies gives it negotiating power with both drug manufacturers and customers. Free cash flow of more than $9 billion last year allowed the company to return $6.3 billion to investors (7.5% of the market cap) while still paying down $2.5 billion in debt.
Shares trade for just 13.6 times earnings against an industry average of 18.6-times and a five-year average of 20-times earnings for the company. Earnings are expected flat in 2017 but could surprise higher and my $88 target is still just 15-times earnings.
Risks To Consider: Failing market sentiment overall could weaken the case for all stocks, though these blue-chips should fare relatively better on strong brands and economies of scale.
Action To Take: Find safety while still participating in the market’s upside potential with these value bets in blue-chip companies.