Donald Trump's victory in the US elections last year was cheered across the US equities markets on hopes of significant fiscal reforms like tax cuts and infrastructure spending. Any tax rate cuts would boost the bottom line of the listed companies. In addition, populist sentiments might not be that bad for America's corporations which are facing stiff competition from an influx of cheap Chinese products.
According to me, the US economy will continue to perform well in 2017 too although the P/E valuations have turned expensive now. However, there is no overheating in the economy as interest rates are still low as compared to 2008's high, offering some comfort in the near term. However, any heightened geopolitical tension may spark a sell-off across financial products.
Considering a gradual rate hike path in 2017 by the Federal Reserve and also the possibility of fiscal stimulus by Mr. Trump, I feel banking, industrial and pharmaceutical sectors may benefit the most next year. I have picked up my stocks based on a top down approach. In the banking sector, I have picked up American Express, Fortune Brands Home & Security in the infrastructure sector and Endo International in the pharmaceutical sector. Match Group is my preferred pick in growth stocks.
Banking stocks to benefit from the US Fed rate hikes: Banking stocks have been taking a hit since the 2008 financial crisis until early 2016 on account of lower interest rates, higher regulation costs and lower credit growth due to unstable job market conditions. However, all these three factors seem to reversing and thus are positive for the US banking sector. Gradual rate hikes would boost the NIMs of banks. In addition, markets are anticipating a relaxation in banking rules such as the Dodd-Frank Act which should provide a relief to the regulatory costs going forward. In addition, the unemployment rate is also below 5% and thus stable job markets may spur credit spending. Although the recent rally in the banking stocks has made valuations close to the historical average of P/BV of 1.5x, the banking sector will continue to outperform next year.
American Express (NYSE:AXP) is a global payment and travel company. The Company's principal products and services are charge and credit payment card products and travel-related services offered to consumers and businesses around the world. The Company has taken a one-time hit from its end of a partnership with retailer Costco (NASDAQ:COST) but AMEX's growth story remains intact. Excluding the impact of Costco-related revenues in the year ago-period, adjusted revenues net of interest expense increased 5%, reflecting a rise in Card Member spending, along with higher net interest income and net card fees. Adjusted billed business was up 7% in Q3FY16 and net card fees rose 10%, reflecting strong performance in the premium card portfolios. The Company plans to optimize operating costs and has also raised its FY2016 adj. EPS guidance ex. restructuring charges to $5.90-$6.00 (formerly $5.40-$5.70). With job markets stabilizing, I believe Amex is well placed to capture consumer spending in the US as well as in the international markets which is recording double digit business growth in terms of billing. The stock's relative P/E ratio (according to the Bloomberg) is trading at 0.64x, much lower than the 4 year average and median of 0.86 and 0.95 respectively.
Infrastructure sector to get a boost from Donald Trump's expansion plans: The infrastructure sector may stabilize in 2017 after three tough years, thanks to a modest recovery in commodity prices. Energy and mining customers' capital-spending cuts should moderate going forward. Donald Trump's plan to spend $100bn a year on infrastructure, with about 60% on highway related projects should give a boost to this sector.
According to the Bloomberg Consensus, spending of North American integrated and independent E&P will rise by 2% in 2017 versus 28% and 26% decline in 2016 and 2015. Also, technology acquisitions in the industrial space are expected to continue. Honeywell, UTX and 3M have substantial capacity for deals. Emerson is already seeking deals to grow back to $20 bn in sales by 2019.
Fortune Brands Home & Security (NYSE:FBHS) is an industry-leading home and security products company, which has 4 segments- Cabinets, Doors, Pluming and Security having operating margins (3Q2016) of 12.4%, 21.5%, 17.3% and 14.6% respectively. The Company has been aggressively expanding its dealer base through organic acquisitions especially in its high margin Plumbing segment. It has recently announced the creation of the Global Plumbing Group (GPG) which would help in expanding the growth apart from its existing Moen brand, thus supporting a 'multi-brand channel and geography' plumbing business, FBHS has already acquired 2 companies- Riobel and ROHL for $40mn and $70mn this year. The management plans to grow its plumbing sales organically and through acquisitions to a total of $2.5 billion by 2020. The Company expects to generate free cash flow of ~$400mn in FY2016 which will be reinvested through acquisitions. FBHS's strategy to expand through organic acquisitions especially in the high margin Plumbing business should boost the overall margins. The acquisitions are fundamentally also in one of the best times as the US economy is on an uptick and the housing market is also stable. According to the National Association of Realtors/U.S. Census Bureau, existing home sales are up 5.9% YoY, and new homes are up 17.8% YoY. The housing recovery is likely to continue at a moderate pace driven by continued job growth, lower inventory levels and increasing consumer confidence and affordability. Valuation wise too, the stock is trading quite cheap with FY17 P/E of 17.5x and EV/EBITDA of 11.0x, lower than the average of last two years of forward P/E of ~20x and EV/EBITDA of ~12x.
Pharma sector appears to be a Value Buy in 2017 post a steep correction this year: Regulatory pressures on drug pricing has taken a toll on the pharmaceutical companies especially the generic drug companies. However, specialty drug makers are still placed at a better position due to relatively limited competition. I remain upbeat on the pharmaceutical sector (especially specialty pharma companies) post the recent correction due to attractive valuations and expect the regulatory pressure to ease out a little bit under Trump's presidency. According to Bloomberg consensus, prices of specialty pharmaceuticals are still likely to rise about 9-10% a year, despite payer pressure and congressional probes on specialty pharma tactics. Spending on specialty assets rose at an average rate of 11% to $27bn by 2015 from $14.5bn in 2009, according to the Health and Human Services Department. Specialty drugs' share of retail prescription spending rose 33% in 2009-15, to 7.6% from 5.7%.
Endo International Plc (NASDAQ:ENDP) provides specialty healthcare solutions. The Company develops, manufactures, markets, and distributes branded products (+31.3% of revenues) and generic drugs (61.4%). The stock has crashed from a 52 week high of 63.2 to 15.8 now mainly on the back of pricing pressure from generic drugs. However, valuations have turned extremely attractive now with ENDP trading at only ~3x 2017 EPS and ~6x EV/EBITDA. New Endo CEO Paul Campanelli is a positive development given the CEO's experience on generics. Campanelli has spent most of his career at generics companies, most recently as head of Par, and he can use that expertise to help remedy some of Par's struggle which is now acquired by Endo. Endo acquired Par last year, and it accounted for 60% of sales through 1H. The Company's focus to achieve operational efficiency by integrating its acquisitions will bear fruit in the coming quarters although the product pipeline is less now. The management change, attractive valuations justify accumulation of the stock as it has almost bottomed out.
Apart from these 3 sectors, growth may be unlocked in technology companies which are focused in Artificial Intelligence (NYSE:AI) and Internet Of Things (IOT). However, Trump's policy on immigrants is still not clear and may weigh on IT stocks in the near term.
Match Group (NASDAQ:MTCH) operates in two segments: Dating and Non-dating. Its Dating segment consists of a portfolio of over 45 brands, including Match, OkCupid, PlentyOfFish, Tinder, Meetic, Twoo, OurTime, BlackPeopleMeet and FriendScout24, in 38 languages across 190 countries. The Company enjoys a stellar gross profit margin of >80%. The Company's Non-dating segment consists of Princeton Review which provides various education services, test preparations, academic tutoring and college counseling services. Match's dating segment is gaining traction mainly due to the stellar growth of its online dating app -Tinder. Tinder's subscriber base has grown from zero two years ago to >1.5mn paying subscribers now. Match's dating as well as non-dating portfolio along with strong advertisement strategy should offer bright prospects. The secular trend of online dating app enables a strong cash conversion for the Company too.
These are my top picks based on current market conditions and I hope it adds wealth to all investors!
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.