Portfolio Review

7/29/2013


With the S&P 500 Index and the Dow Jones Industrial Average hitting all-time highs this month, investors may be tempted to take profits and raise their cash position.

Don't make that mistake. New highs in the Dow Industrials and Transports have reconfirmed the Dow Theory's bullish stance (see the story at right for details), and we advise subscribers to focus not on moving to cash, but on making sure they're in the right stocks. With that in mind, we're retooling our buy lists.

Since topping the March-quarter profit consensus by 18%, Lear ($67; LEA), a maker of automotive seats and power-management systems, has seen profit targets for 2013 and 2014 rise at least 8%. Wall Street now expects profits to fall 2% this year, then jump 25% in 2014. With demand for cars on the rise in emerging markets, consensus estimates could prove conservative. At 13 times the current-year profit estimate, Lear trades at a 28% discount to the median auto-parts maker. Lear, which was expected to release June-quarter profits July 26, is being initiated as a Long-Term Buy.


Cognizant Technology Solutions ($72; CTSH) has been a model of consistency, delivering double-digit growth in sales and profits every quarter for the last 10 years. The consensus projects sales and profit growth of at least 16% this year and next year, and estimates are edging higher. Despite Cognizant's operating momentum, the shares remain 11% below March all-time highs, in part because of concerns that immigration reform would make visas for its foreign workers more difficult and expensive to obtain. While the Senate passed a reform bill, it has stalled in the House of Representatives. Any reform that eventually becomes law will likely be less onerous for Cognizant than the original bill. Cognizant, scheduled to release June-quarter results Aug. 6, is being added to the Buy List. It is already a Long-Term Buy.


We are dropping American Express ($74; AXP) from the Buy List. Shares have surged 29% this year, outpacing the 19% gain for the S&P 500 Index. But the shares now trade at 17 times trailing earnings, within 8% of their five-year average, and the Quadrix Value rank has dipped to 52. Still, Amex seems capable of delivering double-digit profit growth in the second half of 2013, and its long-term outlook remains attractive. Amex retains its Long-Term Buy rating.


Abbott Laboratories ($37; ABT) is being removed from the Long-Term Buy List after posting sluggish growth in the June quarter. Sales in emerging markets jumped 13% to $2.3 billion, driven by strength in Russia and China, but the U.S. ($3.1 billion in sales) drags on operating momentum. The stock's Overall rank has fallen to 40 from 86 at the end of March. Abbott is now rated B (average).


Microsoft ($32; MSFT) is being dropped from the Long-Term Buy List. The software giant posted June-quarter sales and profits below analyst expectations, and cash from operations dipped 23%. Microsoft has staked much of its future on the Surface tablet computer, and the company took a $900 million charge to write down the cost of the Surface RT by $150 per unit, hoping to move inventory. Microsoft, which has been largely left out of the mobile-device revolution, earns a rating of B (average).

Earnings roll call

Financials

In the June quarter, BlackRock's ($285; BLK) per-share profits surged 34% to $4.15 excluding special items, topping the consensus by $0.33. Revenue grew 11% to $2.48 billion. BlackRock held $3.86 trillion in assets under management at the end of June, up 8% from the year-ago quarter though down 2% from the end of March. Net inflows totaled $11.91 billion for the quarter. BlackRock is a Focus List Buy and a Long-Term Buy.


Fifth Third Bancorp ($19; FITB) earned $0.44 per share excluding one-time benefits in the June quarter, up 22% and two cents above the consensus. Total average loans and leases climbed 5%, driven by growth of 9% for residential mortgages and 15% for commercial and industrial loans. Total deposits rose 8%. Net interest margin continued to decline in the June quarter, but management expects pressures to ease in the second half of 2013. Fifth Third is a Buy and a Long-Term Buy.


Industrials

B/E Aerospace ($70; BEAV) reported June-quarter earnings per share of $0.89, up 29% and 5% above the consensus. Sales, driven by a robust delivery cycle for new airplanes, advanced 11% to $850 million, also topping the consensus estimate. The backlog reached $8.4 billion, up about 1% from the end of March. The company also raised its 2013 guidance for per-share earnings. B/E Aerospace is a Focus List Buy and a Long-Term Buy.


Union Pacific ($162; UNP) grew June-quarter earnings per share 13% to $2.37, exceeding the consensus by $0.02. Although volumes slipped 1%, revenue powered 5% higher to $5.47 billion. Freight revenues for coal, chemicals, and automotive all rose 12%, offsetting declines in agricultural (down 8%) and intermodal (down 1%). Union Pacific is a Long-Term Buy.


Health care

Varian Medical ($73; VAR) earned $1.03 per share in the June quarter, up 7% and $0.02 above the consensus estimate. Revenue advanced 3%, missing the consensus. The backlog rose 4% to $2.8 billion. Varian's full-year guidance for fiscal 2013 ending September fell short of analyst expectations. Varian is a Long-Term Buy.


Technology

Apple ($419; AAPL) reported earnings of $7.47 per share in the June quarter, down 20% but $0.15 above the consensus. Sales crept 1% higher to $35.32 billion, also ahead of the consensus. Sales rose 15% for the iPhone and 25% for iTunes, software, and services, offsetting a 27% decline for the iPad. Revenue slumped in Asia Pacific (down 18% year-over-year), China (down 14%), and Europe (down 8%), though sales in the Americas rose 12%. Adding to the company's challenges overseas, Russia's three largest smartphone operators ended their iPhone contracts, claiming Apple's terms made the device unprofitable for them. For the September quarter, Apple expects revenue of $34 billion to $37 billion, compared to the consensus of $37.11 billion at the time of the announcement. Shares rallied on the results. Apple is a Buy and a Long-Term Buy.


In the June quarter, Google ($904; GOOG) earned $9.56 per share excluding special items, down 6% and $1.22 below the consensus estimate. Sales surged 19% to $14.11 billion but fell short of the consensus of $14.42 billion. The Motorola Mobility unit grew sales 18%, but its operating loss widened to $218 million versus $49 million in the year-ago quarter. Google remains a Focus List Buy and a Long-Term Buy.


EMC ($25; EMC) shares surged after the company said its full-year outlook remains intact. June-quarter earnings per share rose 8% to $0.42 excluding special items, in line with the consensus estimate. Revenue climbed 6%. Management reiterated that it expects 2013 earnings of $1.85 per share, versus the consensus of $1.86. EMC is a Long-Term Buy.


Qualcomm's ($62; QCOM) per-share profits rose 21% to $1.03 excluding special items in the June quarter, matching the consensus estimate. Sales jumped 35% to $6.24 billion, ahead of the consensus. For the September quarter, Qualcomm expects per-share profits to increase 15% to 24%, versus the 21% consensus. Qualcomm is a Focus List Buy and a Long-Term Buy.


Visa ($189; V) grew June-quarter earnings per share 21% to $1.88, topping the consensus by $0.08. Operating revenue rose 17% to $3.00 billion, on gains of 13% for total payments volume and 9% for transaction volume. Visa also approved an additional $1.5 billion in stock buybacks. Visa is a Buy and a Long-Term Buy.


Rank Changes

Cognizant Technology Solutions ($72; CTSH) is being added to the Buy List. Lear ($67; LEA) is being initiated as a Long-Term Buy. American Express ($74; AXP) is being dropped from the Buy List, though it remains a Long-Term Buy. Abbott Laboratories ($37; ABT) and Microsoft ($32; MSFT) are being dropped from the Long-Term Buy List. Vanguard Short-Term Investment-Grade ($10.70; VFSTX) now accounts for 7.4% of the Long-Term Buy List.


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