October 2, 2024

Another Bad Start to the Month

The third quarter ended with the market looking good. The S&P 500 was up 2% in September after a rough start, 4.3% for the third quarter and over 20% YTD. Can the good times last?

The market is being driven by Fed rate cuts and the current perception that the economy will have a soft landing or no landing. We’re getting the rate cuts without the normal economic pain. But that theory will be tested on Friday when the September jobs number comes out. It was this jobs report that sent the market reeling in early August and September.

The number is expected to show some slowing down from earlier this year in the job market but nothing of great concern. Investors will be anxious to see that jobs are just slowing and not rolling over. A bad number could reignite recession fears while a good number could reaffirm the current “soft landing” optimism.

It’s been a rocky start to October, although not as bad as the starts to August and September, at least so far. Headline risk is coming into play. The Middle East war is escalating as Israel has invaded Lebanon and there are reports that Iran is preparing a missile strike against Israel. A port strike by dockworkers on the East and Gulf coasts began at midnight on Monday. If the strike isn’t resolved quickly, it will have a negative effect on supply chains and prices.

The headline risk had been out there for a while, although the port strike is a bit of a curveball. Anything is possible, but there is no reason to expect a horrid jobs number that reignites recession fears. We’ll have to wait and see how these issues unfold.

Unless something changes the current math, I expect the market to finish this year higher than it is now. However, it is also likely that there will be more volatility in the next few months.

Despite the current noise, a new era of Fed easing has begun. The best performing of the 11 S&P 500 stock sectors for the past three months are Real Estate and Utilities. The worst-performing sectors last year are among the best-performing this year. Current portfolio positions with upward momentum include utility stocks Brookfield Infrastructure Partners (BIP), Constellation Energy (CEG), and NextEra Energy (NEE) as well as REITs Digital Realty Trust (DLR) and American Tower Corp. (AMT).

Recent Activity

September 11
Purchased AGNC Investment Corp. (AGNC) - $10.18
Broadcom Inc. (AVGO) – Rating Change “HOLD” to “BUY” and add ½ position - $158.27
ONEOK Inc. (OKE) – Rating change “BUY” to “HOLD”
AbbVie (ABBV) – Rating change “BUY” to “SELL 1/2” - $194.59
NextEra Energy (NEE) – Rating Change “HOLD” to “BUY”

High Yield Tier

AGNC Investment Corporation (AGNC – yield 13.7%) – This new high-yielding mortgage REIT has been trending higher since the beginning of July. It also had a spike in September before pulling back a little this past week. The writing should be on the wall for an upside move in this mortgage REIT. Short-term rates are officially coming down and will continue to do so for the next two years, lowering costs and increasing margins. Longer rates are also likely to continue trending lower, which should boost the book value of the portfolio and the stock price. There are good times and bad times to own AGNC. It has been a bad time for most of the last two years. But now it looks to be in the early stages of a good time. BUY

Brookfield Infrastructure Partners (BIP – yield 4.6%) – The good times are rolling as this infrastructure behemoth just hit a new 52-week high this week. After struggling mightily for what seemed like forever, BIP has caught some fire. It was up 12.4% in September and 44% since the middle of April. BIP had been a stellar performer for many years prior to inflation and rising interest rates. But now interest rates are moving significantly lower, and the main threat is a slow economy or recession. BIP should have the right stuff on the right side of the interest rate cycle and with highly defensive earnings. (This security generates a K-1 form at tax time.) BUY

Enterprise Product Partners (EPD – yield 7.2%) – Although this steady midstream energy partnership has returned (between dividends and appreciation) more than 15% YTD, it has been rangebound since the spring. The improving interest rate situation has reignited previously beleaguered REITs and Utilities, and those sectors have gotten the upward movement. Midstream energy companies are not being seen as a turnaround because they have been performing well all along. But they still have the right stuff going forward. EPD tends to be very solid in a turbulent market and should trend higher. (This security generates a K-1 form at tax time.) BUY

FS KKR Capital Corp. (FSK – yield 14.2%) – The performance of this ultra-high-yielding Business Development Company has been encouraging. The recession talk is waning, and investors are expecting a soft land or no landing. FSK went ex-dividend earlier this month and the price barely moved. When a security has a payout and yield of this size it usually pulls back after the quarterly dividend gets priced out of the stock. But the upside momentum met that downside catalyst head-on and greatly mitigated the damage. HOLD

Main Street Capital Corporation (MAIN – yield 5.8%) – MAIN is back in business and creeping back toward the high end of its recent range as recession talk ebbs. It took a hit in early August from the temporary recession scare but it has recovered and been trending higher since. Solid earnings and reduced recession fears are leveling the stock. The BDC reiterated its monthly dividend of $0.245 per share for the rest of the year and announced an additional $0.30 per share supplemental dividend that was paid in September. HOLD

ONEOK Inc. (OKE – yield 4.3%) – This more volatile midstream energy company stock endured a sizable 5.8% one-day selloff last Thursday. The only company-specific news is that soon-to-be-acquired EnLink Midstream (ENLC), of which ONEOK will own a 43% stake, has been downgraded and analysts see little upside in the shares. Other midstream companies were weak on the day as oil prices declined. OKE probably took a bigger hit because it had been up over 20% since the beginning of August after announcing the Enlink Midstream and Medallion Midstream acquisitions. It’s hardly game-changing news and OKE has recovered strongly in the days since the selloff. HOLD

The Williams Companies, Inc. (WMB – yield 4.2%) – This midstream energy company stock is quietly kicking butt while energy has been the worst-performing S&P sector YTD and interest rate-sensitive stocks have been getting all the attention. WMB just hit a new 52-week high last week and has returned over 33% YTD. Midstream energy companies continue to outperform because they have little commodity price exposure and offer a high income in an uncertain market. Williams guided to the upper half of 2024 estimates and is still in an uptrend that began in the middle of February. BUY

Dividend Growth Tier

AbbVie (ABBV – yield 3.1%) – The cutting-edge pharma company stock is still trading very close to the high made early in September. Performance has certainly flattened out over the past month, but the stock isn’t pulling back. This was supposed to be a tough year with falling revenues from the Humira patent expiration. But investors are impressed that newer drugs Rinvoq and Skyrizi are killing it and are increasingly confident of the company’s ability to replace the lost Humira revenue. ABBV is getting through this year in spades ahead of greener pasters next year when management expects the company to return to “robust growth.” HOLD

American Tower Corporation (AMT – yield 2.8%) – The cell tower REIT has pulled back a few percentage points from the high in early September. A breather is normal. AMT is up 35% since the middle of April. It has benefited hugely and early from the REIT revival as its niche technology properties make it highly desirable. The prognosis looks bright as customers are being added to existing towers and the properties continue to expand in the U.S. and overseas. American Tower also raised guidance for 2024. BUY

Broadcom Inc. (AVGO – yield 1.2%) – This AI powerhouse continues to bounce around since its stellar earnings report and announcement of a 10-for-1 stock split in June. AVGO was upgraded earlier last month, and the other one-half position was added back after the stock took a beating in the beginning of September. The AI trade has lost a lot of its luster recently. The eventual slowdown was inevitable. But AI is still a huge catalyst, and the market phenomenon is far from over. Broadcom is one of the best positioned companies and the stock can easily make up for lost time when it gets hot again. BUY

Cheniere Energy, Inc. (LNG – yield 1.0%) – This natural gas exporter took a hit early in September as the market reeled and the energy sector struggled. But it has bounced back nicely. Natural gas prices have been falling and the overall energy sector doesn’t behave well when that happens. But that isn’t necessarily a bad thing for Cheniere as the spread between U.S. and overseas prices remains high. The world still needs U.S. natural gas. Although the price can bounce around with gas prices in the near term, NGL exports continue to grow. BUY

Constellation Energy Corporation (CEG – yield 0.6%) – CEG has already returned 40% since being added to the portfolio in the middle of August. Two weeks ago CEG had a huge one-day 22% move higher after it was announced that Microsoft (MSFT) made a deal with Constellation to buy electricity generated from a future reopening of the Three Mile Island nuclear plant in Pennsylvania. The stock has not pulled back since. Details of the agreement are yet to be released but management at Constellation says it is the largest electricity purchase in history.

The deal should add to Constellation’s already projected double-digit earnings growth over the next several years. It also confirms the fact that technology companies, which are responsible for the surge in electricity demand, are targeting carbon-free nuclear power. Future increases in business from other big technology companies are now quite likely. BUY

Digital Realty Trust, Inc. (DLR – yield 3.0%) – The data center REIT pulled back along with the technology sector after mid-July. But it was up over 9% in September and made a new 52-week high last week. DLR was going strong when other REITs were struggling and now the sector is in a much better position as interest rates are likely to move lower. But the main story is the data center properties that are a high-growth business. Tech companies are forecast to invest $1 trillion in data centers over the next five years to accommodate AI. BUY

Eli Lilly and Company (LLY – yield 0.6%) – While this stud pharma stock recovered strongly from a dip in July and August, it is still stuck at the same price it was in June. But no stock goes straight up forever and LLY has still returned over 50% YTD and more than 500% since being added to the portfolio. The prognosis is still excellent as its leading weight loss and type 2 diabetes drugs are still just near the start of their global market penetration. The company has invested in $20 billion in manufacturing capacity in the last four years to meet growing demand. Analysts currently forecast 73% annual earnings growth for Lilly for the next five years. BUY

McKesson Corporation (MCK – yield 0.6%) – Unfortunately, supply issues with Novo Nordisk’s (NVO) weight loss drug have been a problem for this pharmaceutical supply chain company. Earnings disappointed with lower-than-expected revenues last quarter and the company cited weight loss drug supplies that couldn’t keep up with demand as the main cause. A recent report indicates that it could be more of the same for McKesson this quarter. The stock is way down from the high. I’m not sure how this issue will get sorted out in the near term. But it’s a temporary problem and the longer-term prognosis for MCK is excellent. This is a good buying opportunity if you don’t already own the stock. BUY

Qualcomm Inc. (QCOM – yield 2.0%) – There’s still not much new. This semiconductor giant has taken some lumps. It sold off in the first week of September but has since recovered. But the stock is still down 28% from the high made in mid-June. Technology is under some pressure as the AI trade has been losing a lot of its luster. AI could weaken further but the catalyst is not going away. Qualcomm is still very well positioned ahead of the next wave of AI, which should be in mobile devices. Analysts are forecasting a strong upgrade cycle for smartphones sometime next year and QCOM can easily make up for lost time when it gets hot. BUY

UnitedHealth Group Inc. (UNH – yield 1.4%) – The health insurance behemoth had been a dog until this past July. UnitedHealth beat earnings forecasts last quarter as it added more patients and pharmaceutical customers despite a continuing negative effect on profits from the February cyber-attack and reaffirmed previous guidance for 2024. The market was happy, and the stock took off. UNH has leveled off over the past couple of months, but it is the first stock in the portfolio to report earnings, which it will do on October 15. Hopefully another good report can get it moving higher again. In the meantime, UNH is a great defensive stock that tends to perform well when the overall market is under pressure. BUY

Safe Income Tier

Alexandria Real Estate Equities, Inc. (ARE – yield 4.4%) – I’m losing my patience with this niche innovation center property REIT. The performance has been uninspiring. ARE had a strong surge at the end of last year but it has been range-bound and sideways all year. Since it was added to the portfolio in December of last year, it has only returned -1% while the sector benchmark Vanguard Real Estate Index Fund (VNQ) has returned more than 16% over the same period. The fundamentals of the business seem to be solid. I’ll wait and see what happens over the next month after the Fed rate cut and the improved interest rate narrative. BUY

NextEra Energy (NEE – yield 2.4%) – This utility has come alive again after a couple of years of subpar performance. Of course, utilities are back in favor but the resurgence of NEE predates the sector turnaround which began about three months ago. NEE is up 20% since the end of June and 55% since the end of February. NEE had been a market-beating superstar before inflation and rising rates and appears to be returning to form as that situation reverses. There is also growing anticipation of a steep acceleration in electricity demand in the years ahead. Renewable demand is expected to grow the most. BUY

USB Depository Shares (USB-PS – yield 5.1%) – The environment is getting brighter and brighter for fixed income. These securities love falling interest rates. Everything looks good for this high-yielding fixed-income security. It’s been through the worst bond market ever and now interest rates are trending down, and the price and total return are moving up. The position has returned better than 32% now. BUY

Vanguard Long-Term Corp. Bd. Index Fund (VCLT – yield 4.9%) – Ditto for VCLT. The long-term corporate bond ETF loves falling interest rates. There could be some default issues in the event of a recession, but the fund is highly diversified and will benefit greatly from lower rates as well. BUY

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