Every investor knows that the best time to buy stocks is when they are on sale. Sometimes the bargain prices last a long time, like in 2008/2009, and sometimes the sales are short-lived like the flash-crash, or when the Federal Reserve mentions the end of quantitative easing. Often, the buying opportunities are a surprise, a black-swan event occurs and the market drops. During these events, the fortunate investor has some cash available and he/she can move quickly to scoop up some bargains. However, there are times that an investor, looking ahead, can see some future events that may cause a temporary drop in the market. The wise investor, knowing these events are coming, will have a watch list of potential companies to buy and some cash ready to take advantage of the sale. Looking out through the end of the year, I see four events that could cause the market to drop. All four of these events could disrupt the market, but all four of these events will be relatively short-lived. Raise some cash and have your wish list ready, because the market could be in for a bumpy ride.
Event One - Syria - As I am sure you are aware, President Obama would like to launch an attack on Syria to punish them for their alleged use of chemical weapons. The naval ships are in place and all that waits is an approval vote from the Senate and the House. If the authorization vote from Congress comes (not a sure thing), I would expect an attack on Syria shortly after. The big question is, if the United States launches an attack, what happens after? Does Syria try to retaliate, does Iran retaliate in some manner, does some terrorist group launch a terrorist attack somewhere in retaliation, or does nothing happen? Uncertainty in the world almost always leads to a declining stock market. However, uncertainty never lasts. I expect a Syria attack, if launched, will cause at least a temporary market decline.
Event Two - Budget Fight - The Government's fiscal year ends September 30th which requires a new budget, or a Continuing Resolution, funding the Government needs to be in place by October 1st. As of this writing, nothing is in place. House Speaker John Boehner has stated it is his intention to push for passage of a Continuing Resolution that is currently working its way through the Senate that funds the Government at sequester levels. However, some ultra-conservative Republican Congressmen are demanding any budget plan defund Obamacare, or they will shutdown the government. The President has stated that he opposes the sequester cuts and wants to see a real budget with spending increases. The White House has hinted that they would be willing to see a government shutdown to force passage of a budget that foregoes the sequester cuts. All of this, again, spells uncertainty and as I have stated, the market hates uncertainty. Personally, I think both sides know a government shutdown would be bad and therefore, I expect some resolution. However, that doesn't mean there won't be uncertainty leading up to the deadline that could cause the market to pullback. While the two sides play political games and threaten a government shutdown, opportunity for the intelligent investor may occur.
Event Three - Debt Ceiling - Somewhere around mid-October, Congress will have to pass a resolution raising the debt ceiling of the United States. I will give you one guess as to how smooth that will be. The President has already stated he will not negotiate over the debt ceiling. Here is a quote from the President's Press Secretary:
"Let me reiterate what our position is, and it is unequivocal. We will not negotiate with Republicans in Congress over Congress' responsibility to pay the bills that Congress has racked up, period." He added, "We have never defaulted, and we must never default. That is our position, 100 percent, full stop."
The Republicans have stated they want to use raising the debt ceiling to negotiate more spending cuts and entitlement reform. One side wants to negotiate, the other side does not. If that sounds familiar, it should -- the exact same thing happened in 2011 and a market fall accompanied the political fight.
Event Four - New Federal Reserve Chairman - Ben Bernanke's term as Fed Chief expires in January and the President has made it clear he will be selecting a new Federal Reserve Chairman sometime this fall. If press rumors are to be believed, Larry Summers and Janet Yellen appear to be the leading candidates. As we have seen, Federal Reserve Chairpersons carry a great deal of economic weight and their opinions and policy will move markets. The selection itself could upset the market, but it is more likely some statement from the person nominated could set off a market pullback. If the President's selection, during an interview or during some Congressional hearing, were to sound hawkish, you can bet the market would decline.
How Big of a Decline?
There are simply too many variables to have a precise answer to that question. If a Syrian strike were to result in retaliatory attacks by Syria, Iran or terrorist groups, the decline could be large. If we fire some missiles for a couple days and leave, the pullback could be minimal. For the political events, the decline will depend on how far either side wants to take the fight. If the government were to shut down, you can bet the market decline would be large.
To give you some idea what can happen, I thought I would take a look back at the summer of 2011 when the debt ceiling fight was front page news every night until August 1st, when a compromise was reached. The compromise, which did little to resolve the United States long-term debt issues, was followed by a credit downgrade of the United States and further budget battles. The chart below shows the price movement of the S&P 500 (SPX) in 2011.
|Date||Price||Percentage Gain/Loss From Previous Entry|
As you can see from the above chart, the S&P got off to a good start in 2011 rallying 8%, but quickly started to decline as the political storm grew, culminating in a U.S. debt downgrade and an almost 15% decline in the market. The S&P would rally back and finish the year relatively flat. In 2011, just like today, the forthcoming debt crisis battle was common knowledge. Will this year see the same results? I have no idea, but as you can see above, it may pay to wait and see.
Individual Stock Declines May Vary!
Short-term events may affect various sectors of the market differently. During market declines, fund managers may move money into what are considered safe stocks, the Coca-Colas (KO) and Procter & Gambles (PG) of the world, thus minimizing the decline in those stocks. Other sectors considered more sensitive to economic disruptions may see larger declines. In 2011, the banks were treated much worse than the consumer staples, like P&G. The chart below shows the price action in P&G and Wells Fargo (WFC).
|Date||P&G Price||WFC Price|
As you can see, the decline in Wells Fargo, approximately 20%, was far greater than P&G, thus creating a bigger short-term opportunity in Wells than in P&G.
How To Prepare.
An investor should always have a watch list of stocks that he/she has determined are worthy of investment at the right price. This is especially so when the market is headed into a volatile period. If you already have a watch list, review it and make sure the companies that are on the list still have a business that is performing well. A healthy business leads to a healthy stock. Review the current price of the stock and then determine what a good entry point may be.
If you do not have a watch list, take time to put one together. Take a look at your portfolio. Is there a sector of the market your portfolio does not have exposure to? If so, look for a company from that sector to add. It has been my experience that each sector has a "best in breed" stock or two, and those are the stocks you should look to add. Best in class companies usually are best in class stocks. If there is a company you wanted to own but the price has been too high, add that stock to your watch list and have some idea at what price you would buy that stock. Stock prices can fall further than one thinks during market declines. If that dream company is on your watch list, it is an everyday reminder that at a certain price you will buy it.
You may also already own a stock that you wish you could add to, but the price has run up. Keep that stock in mind when a market decline comes, you may get the opportunity to add to it at a nice price.
One additional action you can take is to sell a stock you own to create the cash you want to have if the market pulls back. If you own a stock where the business has been performing poorly, or you own a stock where the price has gotten ahead of itself, considering selling. Only sell if there is a real reason to sell. My experience has been that the opportunity I see is not always as good as the opportunity I already own.
What to Buy?
There is no exact answer to that question, because it depends on the investor. Different investors have different priorities, different time horizons and different investing game plans. I am a dividend growth investor and therefore I follow dividend growth stocks. I am sure there are small stocks, growth stocks, and international stocks that are worthy of purchase at the right price, but I don't follow them. So what I will do is share with you the four stocks that are on my watch list and at what price I would buy them. I think it is important to add that I am currently building a position in Realty Income (O), the "monthly dividend" company. As the price in that stock has declined, I have bought more and will continue to do so. If the market were to have a decline I would add a company from my watch list, but only if it were of greater value than Realty Income.
Procter & Gamble - One of the great dividend growth stocks of all time, but it has fallen on rough times as consumers have been trading down to lower cost products and P&G was late to some of the emerging markets. However, I think P&G is in the early stages of a turnaround and I think the turnaround will put P&G back on the path to slow steady growth. I wrote an article on P&G, and I said:
"I believe the return of A.G. Lafley, continued cost reduction, an improving world economy, continued innovation, greater emphasis on emerging markets and a world population that will continue to grow by the hundreds of millions will lead to decades of mid-single digit growth. I also believe P&G's long history of dividend growth and share buybacks will continue. Like many of the stocks I own, P&G will not skyrocket overnight, but it will provide decades of slow price appreciation and growing dividends."
At that time I owned P&G, which I do not now because I sold it to buy Realty Income. However, P&G is on the top of my watch list and if the price were fall under 65, I would take a position in it.
Altria (MO) - I have followed Altria for a long time and briefly owned it before the split. I have always said, and have written on Seeking Alpha that one of the biggest mistakes of my investing years was selling MO. I really believe it was one of the best managed companies around.
Altria is shareholder friendly as a company can be. It pays out most of its cash in dividends, buys back shares and cuts corporate costs to the bone. Yes, cigarette sales have been falling, but price increases have made up for the decline in smokers. The smokeless tobacco company is doing well, its alcohol business with St. Michelle Wines is growing, the John Middleton cigar business has grown market share and its minority stake in SAB Miller has added significant cash flow. Altria is also entering the e-cigarette business with its NU-Mark product.
I believe Altria will be around for a long time and would be very interested in MO if the price were to fall under 32. For years, various analysts have stated Altria's 5% yield was in jeopardy, and for years they have been wrong. I am confident they will wrong for many more years to come.
Wisconsin Energy (WEC) - Wisconsin Energy is the largest electric and gas company in Wisconsin with 1.1 million electric customers and 1 million gas customers. Wisconsin Energy also owns a 26% interest in American Transmission Company, a multistate, transmission only utility. WEC has been named the most reliable utility in the Midwest seven out of the last 10 years and has very high customer satisfaction. I owned WEC briefly and would be willing to own it again at a price under $38.00.
Wisconsin Energy spent several years spending a great deal of money upgrading its generating capacity and as such, had a smaller dividend than you usually find in a utility. However, with the capital investment in generation behind it, WEC management has stated they intend to increase WEC's dividend at a double digit rate until it is more in-line with its competitors. The future scheduled payout ratios are 60% in 2014, and 65-70% in 2015-2017. That increase in payout ratios is music to a dividend growth investors' ears.
Wisconsin Energy offers a growing dividend, solid balance sheet and the potential for growth. I also believe that at some point, WEC may use its excellent balance sheet to make a bolt-on acquisition, which would add to its potential growth.
Wells Fargo - During the financial crisis of 2009, I bought four lots of WFC at $15.96, $12.59, $17.33, and $16.93. I sold all my shares for $27.27 and $28.21. Although I made a nice profit, I wish I had held those shares. I sold because banks make me nervous, as it seems they have a crisis about every 5 years. I prefer stocks that are relatively unaffected by some currency or economic crisis. Having said that, I realize in the right environment, banks can make a lot of money and Wells Fargo is one of the best at making money.
Wells Fargo likes to think of itself as a national small town bank. Its profit does not come from Wall Street trading desks, it comes from typical bank activities like mortgages, car loans, credit cards and wealth management. Wells is the number one mortgage lender in the country. It also is number one in auto loans, middle-market commercial loans and number two in deposits.
Wells Fargo management has stated they want to increase the dividend payout from the current 27% to 50% to 65%. The current yield for Wells is 2.9%, so an increase in payout ratio to 50% to 65% would signal many years of dividend growth.
Wells Fargo currently sells for around $41.00. If it were to fall under $38.00, I would be very interested in Wells as I believe the dividend is set for many years of rapid growth.
I am very confident that during the next several months, the market is likely to have a pullback. The market hates uncertainty and all the events I have mentioned lead to uncertainty. I am also very confident that the pullback will be relatively short in duration, as all the events mentioned will be resolved at some point. Thus, investors will be given an opportunity to buy stocks cheaper than they are now. No matter what type of investor you are -- growth, income, dividend growth, small stock, etc. -- the opportunity for bargains may presents itself in the upcoming months. Get prepared now by raising cash and doing research into potential stocks to buy. The prepared investor is the successful investor.