Scott Barlow offers six thoughts on the research, analysis and ephemera that’s crossed his desk.
There have already been three major network security hacks this month – at Western Digital, Micro-Star International and Yum! Brands. The unfortunate trend keeps broader corporate spending on security high and almost guarantees revenue growth for network security stocks.
The sector’s largest conference is imminent and Morgan Stanley analyst Hamza Fodderwala highlighted the major issues that will be discussed. The analyst notes that security is the single biggest priority according to a survey of chief information officers and also the easiest spending to defend to management.
Estimates point to global spending on cybersecurity rising from US$169-billion this year to US$235-billion by 2026. Mr. Fodderwala sees Palo Alto Networks and Microsoft as the biggest beneficiaries from current trends.
CIBC analyst Paul Holden published a mammoth 128-page report on the domestic banks on April 24. The most surprising revelation was that valuations for major bank stocks, while at a discount to historical averages, still face downside risk.
He notes that the banks trade at 9.2 times next 12-months earnings and 1.4 times book value. This is an 11-per-cent and 10-per-cent discount to history respectively. Mr. Holden sees downside risk to valuations – the relevant segment of his report is entitled “Discounted valuations not necessarily a buy signal” – because of the U.S. bank liquidity crisis, lower profits on basic loans and the potential for higher provisions for credit losses.
Scotiabank strategist Hugo Ste-Marie warned that the outlook for domestic profit growth is deteriorating. According to consensus estimates, first-quarter TSX earnings are set to fall 7.6 per cent quarter over quarter, 11 per cent year over year.
The strategist notes that analysts are steadily slashing estimates and that approximately half of sectors have weak-to-negative year over year trends. He sees energy with higher odds for an earnings miss whereas materials, financials, industrials and consumer discretionary stocks are likely to come in in-line.
I don’t discuss individual stocks often but I make an exception for Japan’s Fanuc Corp. because it’s a good proxy for “the robots are taking our jobs” trend. Fanuc is one of the world’s leading robotics and automation providers and, if rising wages start spurring more robots and robotic tools, if should be evident in Fanuc profit growth.
The company released a relatively mediocre set of quarterly results this week. Citi analyst Graeme McDonald reports that robot orders met his forecast at 28 per cent year over year and robo-machines saw similar growth. However, profitability was lower than expected because production cutbacks were necessary to allow inventories to burn off – hardly a sign that a robot revolution is under way.
Morgan Stanley’s (very bearish) chief U.S. equity strategist Michael Wilson reported that current market conditions are unusual, and not in a good way. He writes, “when forward [profit] growth goes negative (as it is today), the Fed is [usually] cutting rates, not hiking … however, the Fed has been hamstrung by inflation, making this cycle a historical anomaly in this respect.”
The combination of negative year over year earnings “growth” and stubbornly high inflation pressure keeping rates high is far from ideal for equity prices. Mr. Wilson does not expect a bottom for the earnings growth rate until the second half of 2023.
The quote of the week comes from venture capitalist and author Morgan Housel, “Most financial debates are people with different time horizons talking over each other.” Investors with short time horizons will favour aggressive strategies and asset classes – they want returns right away. These tendencies will mystify risk-averse investors using passive investing strategies to execute the more certain “get rich slow” approach.