A whole bunch of things have come together for me lately, helped, in part, from a call from a client yesterday. My client asked me for the names of the “top 25 stocks in the S&P 500 based on cash per share”. My immediate response was that the list would be a lot of Tech stocks, which turned out to be the case. While I have been bearish on the market since late May, I have done a very poor job of executing my top-down driven strategy in my personal account (short PowerShares QQQ Trust (QQQQ) and Semiconductor HOLDRs (NYSEARCA:SMH)).
This exercise that I performed yesterday opened my eyes as to the reason why. While I have some specific concerns about Tech, my grab for beta ignored the underlying issue: a credit crunch. The NASDAQ 100 is loaded with companies that have absolutely no direct exposure to rising finance costs. I have, in fact, compounded my error by maintaining some small-cap longs, which are getting crunched as investors (hedge funds under pressure in other parts of their portfolio, in my opinion) have pounded on them. The Russell 2000 yesterday took out its 200dma intraday (down 5% MTD and up now only 1% YTD), while the NASDAQ-100 bounced at its 50dma (UP still 3% MTD and 14% YTD). Yup, I bet, so far, against the wrong horse!
Back to this project that I was discussing above: I actually altered the request, creating what I call a list of cash-rich companies. One can argue about how to define a cash-rich company, but I have tried to be very, never overstate “debt”. With that in mind, using StockVal, I created a spreadsheet for the entire S&P 500 that included Cash and Equivalents, Total Liabilities and Market Caps. I then created a NET CASH ratio defining NET CASH as Cash less all balance-sheet liabilities. I do recognize how conservative this is, as often companies have long-term investments that could easily be converted to cash, and I have excluded them. Additionally, there are often non-debt related liabilities that are offset with short-term assets. Still, though, I wanted to make sure that this list of companies had lots of cash, no matter what (like if their inventories are worthless or their receivables accounts not collectable). In any event, it turns out that 37 companies had positive NET CASH, with QLogic (NASDAQ:QLGC) actually having the highest ratio (greatest NET CASH per market cap). For anyone wondering why Google (NASDAQ:GOOG) and Apple (NASDAQ:AAPL) are commanding so much interest, I would add their balance sheet strength to the list of reasons. This table tells the story:
Note the high number of Tech names, the lack of favorable earnings revisions lately, and the strong relative performance over the past 8 weeks. I don’t use 8 weeks arbitrarily. In fact, it was about 8 weeks ago that the 10yr Treasury cracked 5% and alerted me to (and evidently others) become cautious. I define this as a “two-edged sword” problem. Often rising rates are good or bad, depending upon the circumstances. It is clear to me that rising or falling rates at this time are both bad. Rates are high enough now that a further increase could spark a recession. On the other hand, falling rates reflect concerns about the rapidly deteriorating credit environment at a time that the Fed can ill afford to cut rates without triggering extreme dollar weakness. Ouch.
So, in these turbulent times, should we be buying these safe havens? Absolutely not! In fact, I would be very cautious, as I think that these companies have held up better than they should as investors have already moved to reduce the overall financial leverage in their holdings. Even if not, while these companies may outperform the market, I would expect them to suffer absolute declines should this credit crunch worsen (I vote that it will). Their PE ratios, at a median of 22, offer little protection. Additionally, as one can see in the last column (the 2003 lows), most of these stocks have a lot of long-term gains embedded within them. By the way, my initial objective on the QQQQ is 45.50, though it could get a lot worse. Hey, let’s be careful out there…
Disclosure: Author is short AAPL, ALTR, and WFR at the time of this writing