U.S. blue chips suffered their biggest drop in five weeks yesterday and are down nearly 3% so far this year because the latest round of economic reports are fostering a lot of uncertainty about the prospects for continued global growth.
For most investors, it’s been that kind of year.
But I continue to believe that the tech sector – especially here in the U.S. – still has a lot of fuel left in its tank.
Because I know a lot of you folks are concerned, I thought we’d use today’s Strategic Tech Investor to alleviate some of those fears.
And the best way to alleviate fears is to initiate a plan of action.
So that’s just what we’re going to do.
Today I’m going to show you a strategy that will help you put the odds in your corner.
When you‘re done reading this, you‘ll be ready to laugh at the next sell-off.
Beware of the Bears
The volatility we’ve seen over the last few weeks has many of you feeling like you’re on a wild roller-coaster ride – and probably has you thinking about getting off.
I understand that.
And you’re not alone.
The American Association of Individual Investors (AAII) found that bearish sentiment – at 18% at Christmas – doubled to 36% of investors by the first week of February.
But then stocks rebounded and bearishness plummeted. Just as you all got comfortable, however, stocks turned tail and sold off again.
As of yesterday, one-quarter of all investors were back in the bear camp.
In a market as uncertain as this one, you really have three choices.
You can continue on, and ignore what’s happening, which is a bit like flying through a fog bank without radar.
You can cash out and retreat to the sidelines – which means you’ll lock in your losses and will miss out on any gains should the market – or at least the best stocks – march north.
Or you can reduce your risk and increase your odds for success by looking for investments that stack the odds in your favor. During my three decades in the markets, I’ve found that one of the best ways to achieve this is to look for stocks with multiple “catalysts” – which I define as any factors that can make the stock surge in price.
In fact, the mere perception that there are multiple catalysts can prop up a company’s stock price.
With multiple catalysts, you’ve got yourself an insurance policy against corrections. And you increase the odds for market-beating gains.
The stock that I’m going to tell you about today gives us three key catalysts that will help it continue on its market-beating run…
A “Triple-Crown” of Catalysts
The company I’ve identified is involved with a fairly broad range of the global-high-tech ecosystem. It’s a leader in advanced materials as well as in the automation technology for offices, homes and industrial centers that can be remotely controlled with mobile devices.
The company also makes turbochargers that work with gas, diesel and hybrid-engine systems. The company also makes clean-tech products, specialty fibers and advanced-wireless sensors.
And it just happens to be one of the world’s more important aerospace concerns.
I’m talking about Honeywell International Inc. (NYSE: HON). This is one of those rare big-cap tech leaders that manages to be both widely diversified and highly focused.
It positioned itself so well over the past several years by dumping non-strategic operations – while also refocusing by acquiring several other firms.
Here’s the really exciting part for tech investors: Honeywell recently announced a strategic growth plan that creates the three catalysts that should push the stock much higher from here.
Rocky Market Catalyst No. 1: Mergers and Acquisitions (M&A)
If you’ve been participating in our weekly conversations, you know that I’ve been predicting a really big year for high-tech M&A.
And I was right.
High-tech dealmaking has reached $42.4 billion so far in 2014, the best start for a year since the dot-com boom of 2000, says Thomson Reuters. Tech-focused wheeling-and-dealing is up 48% on a year-over-year basis, and is now just $2.2 billion below the volume achieved for all of 2007.
And when it comes to the tech sector’s version of “Let‘s Make a Deal,“ Honeywell intends to be the “Leader of the Pack“ in this realm. As part of its strategic plan, the company recently disclosed that it will spend as much as $10 billion buying companies that fit Honeywell’s newly honed focus.
That’s more than twice the $4 billion Honeywell spent on M&A over the past five years. With that dynamic in place, the stock advanced 250% and outpaced the overall market by nearly 67%.
Honeywell’s planned shopping spree should serve as a strong long-term catalyst for the company’s stock. Honeywell expects the program to run through the end of 2018, giving the stock lots of opportunities to advance as each new deal is announced.
I have to tell you that I bring a unique perspective to Honeywell’s hunt for new properties. Back in 2008, I got to know the CEO of EMS Technologies, a fast-moving small-cap supplier of inflight-broadband services – in short, a company that delivered Wi-Fi to airline passengers.
I thought it was a great firm. So I wasn’t surprised when Honeywell bought it three years later. Under the guidance of my CEO friend, the Honeywell-owned EMS Tech has embarked on a shopping spree of its own – and snapped up several companies that have transformed it into the standout player in its sector.
If Honeywell follows this same approach, its mergers program will be a roaring success.
Rocky Market Catalyst No 2: Earning Increases
By definition, tech investors are looking for growth in sales or earnings, and ideally both.
It’s one of the key reasons why the tech-centric Nasdaq Composite Index’s year-to-date gains of almost 4% are almost double the 2% advance of the Standard & Poor’s 500 Index.
As all of you know from our talks here, growth-focused investors are almost always willing to pay a premium to own a stake in a fast-growing company. And when that earnings growth is accelerating, all the better.
For instance, electric-car darling Tesla Motors Inc. (NasdaqGS: TSLA) trades at 61 times forward earnings and online-video leader Netflix Inc. (NasdaqGS: NFLX) has a forward Price/Earnings (P/E) ratio of nearly 59. Those valuations compare with an average forward P/E of 19 for the Nasdaq 100.
Honeywell currently trades at just 15 times forward earnings.
But I believe that’s about to change.
Honeywell has publicly committed itself to increasing both sales and earnings. It’s projecting organic sales growth of $7 billion to $12 billion over 2013 levels – enough to get the company to a range of $46 billion to $51 billion by 2018.
And the expected mergers could add an additional $5 billion to $8 billion in revenue. So we’re looking at a potential revenue increase of more than 50% from Honeywell’s 2013 sales of about $39 billion.
So-called “top-line” growth of that magnitude is remarkable – especially for a veteran, big-cap player like Honeywell. And when it starts to bring all that sales growth down to the bottom line … well, that’s when you’ll see the pros on Wall Street start to get very excited.
And there will be profit growth to get excited about. Through 2018, the company has vowed to generate double-digit advances in that bottom line.
Sales-and-earnings growth should serve as another strong catalyst for Honeywell’s stock. If the company’s forward P/E widened just to the tech-sector average, you’d be looking at a 26% gain in the share price just from that.
As good as those first two catalysts sound, we’re still not done. You see, there’s also an additional $5 billion catalyst that’s going to work behind the scenes for shareholders.
Let’s look at that next.
Rocky Market Catalyst No. 3: An Intensified Shareholder Focus
When you are a shareholder of any company that means you’re an owner. But too many executives have forgotten that they’re just the “hired help.” They look to feather their own nests – at a cost to you.
So especially with more mature companies like this one, we look for management teams that display a true shareholder focus.
And Honeywell quite easily meets that requirement.
The $5 billion figure we just cited is the amount the company says it will spend buying back its own shares. Over time, that’s a move that will drive up its earnings-per-share (EPS) number, which in turn will induce investors to value the stock more highly. This willingness to pay more for the shares will drive up the stock price, drawing in even more investors.
Honeywell’s shareholder focus doesn’t end with buybacks. The company says it is committed to maintaining what it calls a “competitive dividend.”
To be sure, the current 1.9% yield is now roughly above the midrange for the tech sector. For instance, Google Inc. (NasdaqGS: GOOG) pays nothing to shareholders. But Microsoft Corp. (NasdaqGS: MSFT) shares have a 3% dividend yield.
For Honeywell, the main point is that the company has a history of increasing its dividend. It has raised the dividend 10 times in eight years, a period in which the yield grew by 130%. The company says that in the past dozen years, when you add in the impact of the dividend, shareholders earned a total return of around 400%.
A company that consistently boosts its dividend can really help you increase your overall investment returns – for several reasons.
First, in a volatile market, stocks with solid yields tend to be more stable, because dividend investors are reluctant to sell and give up their extra cash flow. So, these stocks are likely to hold up better than most in case of a correction.
Second, assuming you reinvest all dividends, the extra cash flow going back into the stock steadily increases the value of your position.
It has raised the dividend 10 times in eight years, a period in which the yield grew by 130%. The company says that in the past dozen years, when you add in the impact of the dividend, shareholders earned a total return of around 400%.
In the past, we’ve talked about how the dividend itself shouldn’t be the main factor in selecting a tech stock. We’re still looking for solid earnings growth. But as I pointed out, Honeywell intends to grow its earnings by impressive amounts.
So the dividend is a nice bonus that also serves as a great catalyst. In a low-rate environment like this one, lots of investors are looking for higher yields.
That means more of them will begin to invest in Honeywell, increasing demand for the stock and driving up the price.
A Strong Foundation
Honeywell’s current market value is $73 billion, and the stock trades at $93 a share. It has strong financials, with operating margins of 14% and a return on stockholders’ equity (ROE) of 26%. Last year, Honeywell generated nearly $3 billion in free cash flow (FCF).
Over the past five years, it has had annual earnings per share growth of 16%, a rate I expect to continue. That means earnings – and the share price – could advance about 50% in less than three years. For a big-cap stock like Honeywell, that would represent an enviable performance in any market.
Each of the three catalysts we’ve talked about is a powerful stock igniter in their own right.
But when you put all three together, you end with one of the best “rocky-market” tech stocks you’ll find.
And that’ll let you get off the market roller-coaster – and get your best night’s sleep in months.
Have a great weekend.
[Editor‘s Note: In recent weeks, a number of you have asked for some recommendations for this kind of market. And we‘ve obliged. So we‘d love to get your feedback. Just post a comment below. And thanks!]