I’ve been making a few selective changes to my portfolio recently, influenced largely by the drubbing that’s been metted out to tech stocks, and the fact that most established slow growth stocks continue an unrelenting rise.
As I sit here writing this, the S&P 500 continues to break new records. DOW 17,000 is on the verge of being breached. I’ve given up trying to identify and forecast bubbles however. Nonetheless, I must confess to sitting here scratching my head and trying to work out exactly why this is the case. Company earnings have been solid, not spectacular, easy monetary policy has run it’s course (in the US at least, Europe is a different story), but we continue to break new records day after day. Implicit valuations of stocks continue to rise.
The beauty of having a long term holding period means that short term valuation spikes aren’t too damaging, it’s also not to be taken as an excuse to go out and buy at peak valuations. As I’ve indicated before, I’m not actively looking to buy stocks right now. Our 401k accounts are motoring along just fine, and recent property purchases mean that we are running a well managed budget. However some potentially high growth businesses fell close to 50% from market highs in a very short space of time, and ultimately that proved to be too tempting to pass up.
So what moves did I make?
In keeping with the theme that some of the classic, slower growth businesses have been pushed up to dizzy heights, I trimmed a couple of my dividend growth holdings that I think are at valuations that don’t make much sense.
I still really like the business. but Colgate’s valuation across a range of metrics don’t make a whole lot of sense to me. It’s a nice, steady business that will continue to provide high quality earnings in all types of conditions. However this is still a mature, slow growth company that I figure is anywhere between 15-20% overvalued based on comparable metrics, and earnings growth. I’ve divested the last small portion that I owned. If it ever come back to more reasonable levels, I’m happy to re-enter. I think I can find better places to park my cash for the moment. Morningstar currently has Colgate at 2 stars.
Same drill again with Lockheed Martin. In this case, I’m less enamored with the fundamental business, because it’s typically subject to spending and budgetary cuts. Lockheed is better positioned that most to weather these given it’s dominant position, but as US involvement in various wars overseas gets wound down, I can only help but think that Lockheed’s level of revenue and profit growth will decline over time as well. It’s been a crazy ride on this stock. I happened to pick it up about 15 months ago, and it’s up almost 75% in that time. I’m still hanging onto a small remaining parcel here. Morningstar has LMT at 2 stars currently.
I’m less comfortable with the Lorillard business than I am with either Lockheed Martin or Colgate. There is considerable regulatory overhang for tobacco stocks. It looks like Methanol cigarettes are also attracting increasing regulatory scrutiny. I entered Lorillard when it was providing a handsome yield on cost of around 6%. With a 50% rise in price in a little over 12 months, it’s now providing a yield of only 4%. Rumors of a potential merger with Reynolds have pushed the price of Lorillard stock to all time highs. I’m happy to cash out some Lorillard here and look for better places to invest. Morningstar has LO at 2 stars currently.
In keeping with the theme of purchasing beaten up technology, it’s no surprise that all my buys were of technology stocks. Time will tell whether I’ve diluted the earnings stability that I had with each of Lorillard, Lockheed Martin and Colgate, but I feel I’ve added some strong, rapid growers who have potential for continued disruption.
TripAdvisor & Yelp
While both of these businesses operate in different segments, I’ve clubbed them together because to me, they operate in a similar manner. Both have an active user community who provide and curate reviews which draw in new users who are looking to consume a service. In TripAdvisors case, the reviews relate to destinations and attractions in various places. In Yelp’s case, the reviews are around restaurants and other local services.
While both companies have an advertising centric model, I think it’s only a matter of time before they start offering the ability to transact services , whether that’s booking a hotel or reserving a restaurant. It’s a natural extension of consumer behavior to read a review of something and then look to buy. That’s exactly how I use Amazon, and why I believe Amazon has such high value to people. It’s the ability to read informed reviews and transact based on those reviews.
Overtime, it’s my view that people will be less reliant upon going to a specific website to purchase transact (ie expedia, priceline etc), but will search for places with user feedback on say a hotel, or an attraction, and ultimately complete their purchase on that same portal, rather than going somewhere else to do that.
I picked up some shares in Yelp at around $55 and some shares in TripAdvisor at $85.
I was holding out for a more bargain basement entry point with Facebook, but ultimately I found that I couldn’t help myself. I picked up some stock recently at $58. I’ve been skeptical about what the staying power of social networks could really be in the long term, but Facebook has been making some moves to monetize it’s users on other web properties by creating it’s own ad network, similar to what Google adsense is.
This is a natural hedge if usage on the core Facebook site declines over time, as they will monetize their core ad serving capabilities on other sites. Facebook continues to churn out huge wads off cash through mobile advertising, and video advertising is the next leg up to power earnings. I’ll see what the company has to offer over the next few years. More details of my thoughts on Facebook can be see here.
Twitter was the final purchase that I made recently. This is pure speculative growth. The potential for what Twitter could be is enormous. Advertising revenues for the company are already accelerating. To give some idea of the potential. Twitter earns half as much in ad revenue per user as Facebook, which earns about 10% of the ad revenue per user as Google. Facebook and Twitters ad rates are only going to climb as they continue to add more value to advertisers and people continue to spend more time on mobile, while Google’s blended ad rates will likely continue to fall as advertisers pay less for mobile as they do for desktop advertising.
I’ve made a conscious decision with my recent transactions to swap out companies with slowing revenue growth and more suspect earnings stability with some that I feel are riding an earnings wave on the back of trends that will only accelerate into the future. In my opinion, I’ve replace the less stable or more suspect parts of my dividend portfolio (Colgate being an obvious exception) with some rapidly growing companies that have the potential to achieve strong capital growth, and potentially promising dividends down the line.
Time will tell if these were the right set of trade offs.