2017 FORECAST

1. Get onboard for the Trump political agenda
     Infrastructure build-out:
Construction companies will have lots of work. Equipment makers will sell/rent lots of equipment. Material companies will benefit from increased demand for sand, gravel, asphalt, construction metals. Companies like Astec Industries (ASTE), which sells asphalt mixing machines, Jacobs Engineering (JEC) , which plans large projects and Vulcan Materials (VMC) sells rock, concrete, sand and asphalt.  One infrastructure play is in the water business. The lead crisis in Flint,. has alerted the world to water delivery problems. AECOM (ACM) has experience in large water projects.

  2. Interest rates will rise in 2017.
     Rates increased in Dec 2016. The Federal Open Market Committee has predicted that additional hikes will occur in 2017. If financial markets don't react too badly, we could expect 2 to 3 hikes of .25 points each. The Bond Market has already had massive outflows of cash while the stock market has had large inflows of cash. I am avoiding Bonds and Mutual Funds with the word "balanced" in their names as this refers to a Bond component. My favorite sector is Financials. This includes Banks, Insurance companies, payment processors and Brokerage Firms among others. Net Interest Margin,(a key metric of  Bank Performance) will increase. Financial stocks have run-up in anticipation of the increase in rates. Buy these stocks on dips. Some stocks are still undervalued as expressed by the P/E ratio. Citi-group (C) is one such stock. It is trading at around $60.5 with a multiple of 13.1X and a 1.06% yield.

3. Energy companies will benefit in 2017.
    I don't expect any huge gains in energy but oil prices will stabilize in 2017. I expect oil to trade in a range above $50 a barrel. Any attempt by OPEC to restrict supply will result in increased drilling and production activities in the shale oil regions of the U.S. Also, cheating on production quotas by OPEC members is common, especially given the long drought in oil prices and the desperate economies that rely on oil revenues.
     Overall, new investment in energy should be in the infrastructure plays such as the MLP's (master limited partnerships). Pipelines are the way North Dakota crude gets to the refineries. Energy Transfer Partners (ETP) should benefit under the Trump Administration. Like other MLP's , they pay tax deferred distributions and are excellent estate planning tools.

4. Cannabis is in a niche growth spurt.
     There are 28 states that have legalized medical marijuana. Following the election, 8 states and Washington D.C.have recreational marijuana laws on the books. I have never invested directly in tobacco or alcohol stocks for personal reasons, however, cannabis may have some real curative features. One way to invest in pot indirectly is through Scotts Miracle Grow (SMG). Scotts is trading at 22x earnings and is currently posting a quarterly loss of $.31 per share. I would not buy at these levels. It's just something to keep on the radar.
     The other options for pot are the pharma companies who are trying to exploit pot for pain relief and nausea control in cancer patients. These include : GWPH, INSY, CARA, ZYNE. All are risky bets and should be researched before investing. Since it's too difficult to determine who, if any of these would emerge as winners, the tack I would normally take is the shotgun approach. This means simply buying a mutual fund with all these companies as part of the portfolio. In this case I found only one fund but the management fees were so high that I would not consider it. A peek at the portfolio revealed only a small portion was directly invested in the cannabis industry. Most of the stocks were in large caps. (Always check on the make-up of a mutual fund before investing!) I am still sitting on the sidelines of this volatile industry.

5. Defense stocks should benefit under the Trump Administration.
     Stocks of airplane manufacturers, electronic systems, ship builders, small arm companies, should benefit from increased defense spending. However, these stocks have run-up in anticipation of the bonanza. The charts of the top nine defense contractors looks very much alike, valuations are also stretched and in my opinion pricey.
     At the time of this writing, Trump has sent several tweets that has sent defense stocks reeling.  He has bashed Boeing (BA) and Lockheed Martin (LMT) for excessive costs to taxpayers. Bottom line: wait for meaningful dips in the Defense sector names. Buy only at P/E's that are at a discount to other industrial stocks.

The PEG ratio

Once you understand how the PE ratio works, the question is how stocks in different industries can be compared. Different industries can experience different growth rates. It's not logical to compare the PE of a slow growth company to one that is growing at a rapid pace. After all, earnings growth is what drives stock prices higher. The PEG ratio solves this problem. It compares the PE ratio to the earnings growth of a company. So if XYZ company is trading at a PE of 10X and is growing earnings at 10% then the PEG would look like this: 10/10=1. What if XYZ fell on hard times and it's growth rate fell to 5%. Then the PEG would look like this: 10/5=2. Obviously the better value would be the PEG of 1, which indicates that you are paying 1X the growth rate rather than 2 times as in the second example. What would be an even better value? How about .5X the growth rate. So if XYZ had a growth spurt in earnings, say to 20%, then the PEG would look like this: 10/20=.5X . All we are really trying to determine is how expensive the stock is. Like any other purchase such as a house, car, even groceries, we don't want to overpay for the asset. Remember, buy low and sell high.

More on the P/E Ratio

                                                             
     One way I use the P/E ratio is to try to predict the future price of a stock. Lets say one company- XYZ corp. is trading at only 8 times earnings. Research shows other companies in this industry are trading at 14 times earnings. A little research shows that XYZ had a really bad quarter due to a bone-headed restructuring kind of like what happened to J.C Penny store. Suddenly, the board of directors got fed up and fired the CEO who created the mess. The new CEO restored order and people slowly returned to Pennys for their clothing needs. The old ratio looked like this P/E=Xm where stock price over earnings = a multiple of 8. I'll make up some numbers to fit, 16/2=8 where the stock was trading at 16 and the annual earnings was $2 which results in a multiple of 8X. Now that things have turned around for Pennys, I expect that their multiple will approach the industry norm. A little algebra will show that a multiple of 14X for Pennys will result in a stock price of  $32. X/2=16, solving for X yields the $32 stock price. Now this is very simplistic because it  doesn't take into account higher earnings due to the turnaround. Let's say the earnings increased to $3 in the year of the turnaround. Then a stock price of $48 could be expected. X/3=16- solving for X results in the $48 stock price. Notice that we are talking about comparing a company with peers in the same industry. My next discussion will allow us to compare valuations in different sectors which are growing at different rates. This is achieved with the PEG ratio which is the PE/growth comparison.





























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Exploiting the price/earnings ratio

                                                               INVESTING 101

     Today I am going to explain what I mean by "valuation". Valuation is expressed by the PE ratio. Simply stated, the PE is the price of a share of stock divided by the annual earnings of the stock. Lets say a stock was trading at $20 per share and its last years earnings was $2 per share, that would look like this as a ratio, 20/2 for a PE of 10. This is also called the multiple, because the 10 would have an X behind it. To understand this you have to consider just what the PE is telling you. Basically, the PE is saying how much you are willing to pay (price of the stock) for a dollar's worth of earnings. So in the example I gave, a multiple of 10X is saying that you would pay $10 for the right to earn $1. If that sounds silly, then consider that the average multiple of all stocks historically is around 12-15 times earnings. So a multiple of 10 is well within reason if the company has a viable business model.One such company is Whirlpool, the maker of washing machine,  dryers, refrigerators and other appliances. It was recently trading at less that 10 times earnings. Why? It has been punished for reducing its earnings guidance for the year to $12 from about $13. The stock is down 18% this year mostly due to a strong dollar vrs overseas currencies,mostly the Brazilian real (their currency). Bringing back overseas earnings to a strong dollar can diminish the earnings in dollar terms. I have my eye on Whirlpool but have not bought any yet because the pain may not be over. It is a good company suffering from its global exposure.
     In summary, the PE ratio is a valuable tool for comparing how expensive a stock is vrs other companies in the same business (sector). It can also be exploited in many ways to make investment decisions which I will discuss in later posts.