Stocks I Bought On The Dip: Hologic

Summary

• I bought 19 S&P 500 stocks during the March sell-off.
• This article is an update on one of those stocks: Hologic.
• I share my buy, sell, and hold prices for the stock, as well as share the basic process for my analysis, and potential exit strategy.
• Looking for a helping hand in the market? Members of The Cyclical Investor’s Club get exclusive ideas and guidance to navigate any climate. Get started today »

Introduction

I have two primary methods of sharing my investing ideas and strategies on Seeking Alpha. The first method is via public articles like this one, and the second is via the Cyclical Investor's Club (technically, the blog on SA is a third, though I rarely write articles there). Since launching the Cyclical Investor's Club on 1/12/19, I've always tried to strike a reasonable balance between my public ideas, which everyone can read for free, and the private ideas, shared in the CIC. Over time, I have decided to break these ideas into two distinct categories, where ideas about stocks that comprise the S&P 500 are made public and all the rest remain private. I've tried to abstain from first sharing an idea in the CIC, and then, after the price has run up, sharing it with the public, because I simply didn't like the way it felt to me ethically.

The recent market dive happened so quickly, however, that there was no way I could write public articles in time for all the stocks I purchased March. From February 28th through the end of March, I purchased 33 stocks (plus suggested members buy Berkshire Hathaway (BRK.B, BRK.A), which I already owned), and most of the stocks were purchased in the five trading days nearest the bottom of the market's dip. I could barely keep up with the purchases via the real-time chat function in the Cyclical Investor's Club, much less write full public articles about them all. Of those 34 stocks, 19 of them were components of the S&P 500, and I only managed to write about one of them publicly - Comcast (CMCSA) - at the very beginning of the downturn. So, 18 stocks remain that I plan to write public articles about over the coming weeks. Most of these stocks will no longer be "buys" at their current prices, but I will share both my "buy price" and my "sell price" for the stock in each article so that if we have a double-dip, readers will know the prices at which I think the stocks are buys. And if the market rips higher, readers will know the initial threshold at which I would consider selling and taking profits.

Today's stock is Hologic (NASDAQ:HOLX), and it's one I've done quite well with since purchasing on 3/18/20.

Data by YCharts

What I'm going to do in this article is to take everyone through my valuation process. It's the same process I use for almost all stocks that have low-to-moderate earnings cyclicality, and it is the process that helped me identify the value in Hologic even though I didn't know much about this business at the time I purchased it.

(Source)

Step 1: Determine the cyclicality of earnings

On the F.A.S.T. Graph above, the adjusted operating earnings for HOLX is represented by the shaded green area. In the early 2000s, HOLX wasn't profitable yet, but once it became profitable around 2003, earnings rose almost every year, only declining -1% in 2009 and -4% in 2014. Basically, this company has been as steady an earner the past 17 years as many well-known "blue-chip" companies people have been flocking to the past year or two.

The black line in the graph represents the price of the stock. Interestingly, it traded at very high valuations going into the last recession, and peaked with a P/E ratio of about 33 in 2008. During the 2008/09 recession, the stock price lost a whopping -73% off its peak, even though earnings only fell only -1%. This is indicative of a classic sentiment cycle (I've written a lot about them this past year), when earnings themselves are not cyclical at all but the market sentiment surrounding the stock is.

With relatively steady-earning businesses like this, fairly traditional valuations using P/E ratios and earnings growth estimates work reasonably well to predict future returns, so that is what I used for HOLX (if earnings had been more cyclical, I would have used a different method of valuing the stock).

Step 2: Full-Cycle Analysis

Next, I'm going to run what I call a "Full-Cycle Analysis", which is the same analysis I performed that flagged HOLX as a Buy in March. As part of the analysis, I calculate what I consider to be the two main drivers of future total returns: Market Sentiment returns and Business returns.

In order to estimate what sort of returns we might expect over the next 10 years, let's begin by examining what return we could expect 10 years from now if the P/E multiple were to revert to its mean from the previous economic cycle. I start the previous cycle around 2007, about a year before the last cyclical peak.

As I write this, Hologic's forward P/E is 19.29, while its normal P/E this past cycle has been 17.25. If, over the course of the next 10 years, Hologic's P/E were to revert to its normal 17.25 level and everything else was held equal, it would produce a 10-year CAGR of about -1.11%. (My minimum threshold for purchasing a stock during the current recessionary downturn is a +1.00% expected 10-year CAGR from sentiment mean reversion, which this stock had when I bought it. However, the price has risen a lot since then, and now the expected returns from mean reversion are negative.)

Step 3: Current and Historical Earnings Patterns

We previously examined what would happen if market sentiment reverted to the mean. This is entirely determined by the mood of the market and is quite often disconnected, or only loosely connected, to the performance of the actual business. In this section, we will examine the actual earnings of the business. The goal here is simple: We want to know how much money we would earn (expressed in the form of a CAGR %) over the course of 10 years if we bought the business at today's prices and kept all of the earnings for ourselves.

There are two main components of this: the first is the earnings yield, and the second is the rate at which the earnings can be expected to grow. Let's start with the earnings yield.

Data by YCharts

Hologic's forward earnings yield is currently +5.39%, according to YCharts. I have a couple of things to point out with the earnings yield. The first is if you look at the chart, you will see the point where the earnings yield surpassed 9%, and having a 9% expected 10-year business CAGR was one of the recession thresholds I had in place when purchasing stocks during the downturn. So, even without taking earnings growth into account, we can see Hologic, for a few days, was providing an earnings yield over that threshold.

The way I like to think about this is, if I bought the company's whole business right now for $100, I would earn $5.39 per year on my investment if earnings remained the same for the next 10 years. (Back in March, this number was over $9.00, so you can imagine the dramatic difference it makes buying at a lower price in terms of the expected return on investment one gets.)

The next step is to estimate its earnings growth during this time period. I do that by figuring out at what rate earnings grew during the last cycle and applying that rate to the next 10 years. This involves calculating the EPS growth rate since 2007, taking into account each year's EPS growth or decline, and then backing out any share buybacks that occurred over that time period (because reducing shares will increase the EPS due to fewer shares).

Let's start by looking at how much shares were reduced since 2007.

Data by YCharts

These guys increased shares way back in 2007, probably for an acquisition or something. If this acquisition would have only been a couple of years ago, I would probably have avoided the stock, but since it has been a decade and the business seems to be doing fine, I'll just move the chart up to a post-acquisition time frame.

Data by YCharts

From January 2008 through today, shares outstanding haven't changed much this cycle, but we have seen more recent buyback activity. Overall, there is not much to adjust for here, and when I go back to 2007 through today, I get a cyclically adjusted earnings growth rate of +7.72%, which is a pretty good growth rate over this period.

Next, I'll apply that growth rate to current earnings looking forward 10 years in order to get a final 10-year CAGR estimate. The way I think about this is, if I bought Hologic's whole business for $100, it would pay me back $5.39 the first year, and that amount would grow at +7.72% per year for 10 years. I want to know how much money I would have in total at the end of 10 years on my $100 investment, which I calculate to be about $183.00. When I plug that growth into a CAGR calculator, that translates to a +6.23% 10-year CAGR estimate for the expected earnings returns.

10-Year, Full-Cycle CAGR Estimate

Potential future returns can come from two main places: market sentiment returns or earnings returns. If we assume that market sentiment reverts to the mean from the last cycle over the next 10 years for Hologic, it will produce a -1.11% CAGR. If the earnings yield and growth are similar to the last cycle, the company should produce somewhere around a +6.23% 10-year CAGR. If we put the two together, we get an expected 10-year, full-cycle CAGR of +5.12%.

My Buy/Sell/Hold range for this category of stock is: above a 12% CAGR is a Buy, below a 4% expected CAGR is a Sell, and in between 4% and 12% is a Hold. Right now, Hologic is still in the "Hold" category based on its forward earnings expectations, but if the price rises much higher, thereby pushing the expected CAGR down lower, it will cross the 4% "Sell" threshold. I estimate that would occur if the price of the stock rose above $57.30 per share. As I'm finishing up this article the price stands at $52.01, so another 10% rise from here would push the stock to a "Sell".

It's perfectly fine for an investor to sell as soon as a stock crosses the "Sell" threshold, but often when stocks cross my "Sell" thresholds they have a lot of upward momentum that continues to push the stock price even higher. In an effort to ensure that I don't sell at a price much lower than $57.30 and to try to capture as much upside as possible, I will probably wait for the stock to rise an additional 10% beyond this threshold and then put in a trailing 10% stop. If the momentum takes the stock higher and it stays there, that's great. If it comes back down to about $57.00 and I get stopped out, that's fine, too. I will have made a healthy profit, and the forward expected returns would have been pretty low at that point anyway.

Conclusion

Hologic is a fairly representative example of the stocks that I bought during the dip. Even though Hologic is part of the S&P 500 index, it is an undercovered stock. It has been a full two years since a Seeking Alpha article was written about it. Yet, it stands to potentially provide close to a 100% return for investors who bought during the dip. While there aren't tons of stocks like this around, there were a couple of dozen that were truly on sale in March. My buy price for Hologic is $29.80 if we should have a double-dip, which still has a reasonably high probability of occurring, so consider putting this one on your shopping list.

Analyst’s Disclosure: I am/we are long HOLX, BRK.B. 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.

Comments

[TRSINV]

I have a question regarding the calculation of the EPS, when I look at the EPS Annual for hologic, I get a huge drop in 2008 on -8?
How did you get those numbers you use, pretty new to investing so sorry if my question seems a little wierd.

Great article otherwhise.

[Cory Cramer]

Thanks for the comment and question. The EPS numbers come from the FAST Graph. If you enlarge it in the article you'll see a line of EPS change for adjusted operating earnings from the previous year that show -1%. It's possible that the unadjusted numbers are -8%. But -8% isn't really that much. Most company's EPS fell far more than that in 2008/9.

[TRSINV]

Hello Cory,
Thanks for your reply to my question.
So you would recommend using the adjusted data from fast graph instead of the EPS (Basic/diluted) in ycharts?

Best regards,

Troels

[Cory Cramer]

It can be useful to look at both sometimes. There are times companies make adjustments to earnings to make them look better than they are, but my thinking on using it for these calculations is that I'm following the EPS trend for many years, so there is a good possibility that their adjustments will work out over time, like if they make a bad acquisition that they will eventually have to write something off, even if it takes a few years for them to do it. So, since I'm using such a long timeframe, using the adjusted numbers gives me a quick overview of the long-term trend most of the time.

I haven't been putting this in my recent articles so they don't get too long, but I also usually check free-cash-flow-to-equity/market cap yield, along with the earnings yield. If there is a big gap between those yields it's usually a cause for more investigation. Most of the stocks I bought on the dip I was acting pretty quickly because I knew I might not have much time to buy the stocks at good prices, so I didn't always check that for each company, but usually I do. If they have a lot of debt, usually it shows up in that yield difference. The problem with that metric is that free cash flow can jump around a lot, so it's not as stable as the earnings yield.

So, my starting point is always the adjusted earnings numbers because I can look at Fast Graphs and quickly get an over-arching picture over the long-term, but it's worth comparing it to unadjusted earnings, GAAP earnings, and free cash flow yield to get a fuller picture. Usually when I do that I'm looking for things that are strange, that don't quite add up, or that point to high debt. But I start with the adjusted earnings.

[dimap]

The best article on investing I’ve seen recently. Your process adds a few missing links to value investing (as I learnt it). E.g. introducing historical PE’s for particular stock incl. recessions. As a side note FAST graphs got a new subscriber...

[Cory Cramer]

Thanks, dimap. I find Fastgraphs very useful. The main adjustments I make to their basic stats is that I adjust EPS growth for earnings cyclicality and also for stock buybacks in order to get a cyclically adjusted, full-cycle, earnings growth rate. For Hologic, they weren't very cyclical and didn't have many buybacks over the course of the cycle, so my earnings growth number and the Fastgraphs earnings growth number were about the same.
And then, if earnings are really cyclical, I use a different method all together because the PEs aren't as useful. But Fastgraphs does a great job of displaying that earnings cyclicality quickly so I know what direction to go.

[Keep it Country]

It's easy doing something with cash. It's hard doing nothing.

[Cory Cramer]

Very true.

[Keep it Country]

Good article Thank you. Nice entry price. I didn't time my buys quite that well. In March I added to BRK.B, UPS, HD, MSFT, O, BPYUP and added more to some ETF's and CEF's. I do not own MO but I am considering it for some safe income. Overall I think the rebound is overdone. Staying conservative until the next quarter earnings are announced.

[Cory Cramer]

Thanks for the comment, PJ10. I had already owned BRK.B going in, but I had a buy price on it at $185 for quite a while and stuck with it. Maybe given the impact of Covid so far, that buy price should be adjusted down a little bit, but long-term Berkshire is much better than many businesses I see (especially when it comes to the debt many have taken on this cycle compared to the cash Berkshire holds).
UPS got really close to my buy price if I recall, but didn't quite hit it. I love MSFT's business, but wasn't quite cheap enough for me, yet.

Generally speaking, I was only buying very good bargains once March hit, and I had my strictest requirements on for purchases both in terms of quality and price. Just glancing through the current returns, of the 32 purchases in March all 32 are positive, and 21 are outperforming the S&P 500. I bought no big tech, and most of the stocks are lesser-known mid-to-smallish-large-caps like Hologic. Not because I was seeking them out, but because that is what ended up getting mispriced the most. It's possible it could have been because people were selling mid-cap ETFs and some of the bigger, and/or higher quality mid-caps/small-large-caps got disproportionately sold off.

[Keep it Country]

All 32 are positive is impressive. Hopefully we don't test the lows again! I agree MSFT is still expensive. My recent purchase was 138ish and my first purchase many years ago at 26. Good luck and happy investing.

[Cory Cramer]

I have 2 that I bought on February 28th that are negative, 8 or so I bought in 2019 are negative, and Berkshire is slightly below my buy price but slightly above the closing price of the day it dipped below my buy price (typically measure from the closing price so I can compare with the S&P 500 on the same day). So, I have quite a few ideas since 1/12/19 when the CIC launched that are still underwater, but the March buys are doing well, and overall performance is very good since the launch date (approximately +24.63% compared to SPY's +15.05%). At the beginning of the year the CIC portfolio was +24.73% compared to SPY's +26.63% from the launch date, so we were trailing the index a little bit coming into the year.
The things that have made the difference have been my shift to 'recession mode' at the end of February, which raised a lot of cash. And finding some really solid investments during the downturn in which to put a lot of that cash to work. We still have a lot of cash on hand, but I think we ended up striking a good balance during the dip. It required a lot of discipline in 2019 to not put too much money to work in individual stock ideas. I only had about 15 ideas in 2019 for the CIC (1% portfolio weighting each). Holding off buying a lot of stocks in 2019 may have been the hardest part of getting where we are. It's hard to do almost nothing.

[g23riel]

Great work as always, Cory! Thanks for addressing the selling of the stock as well, which is something that I grapple with on a continuous basis.

[Cory Cramer]

Thanks! You aren't the only one :)

[Dollarman1971]

Darn good recovery of stock price from the March low. One of the better I have seen. Good call. Long MO, NNA, NPSNY, JD, FBIO, ETR, CPLP, and many others.

[Cory Cramer]

Of those, I have MO. I actually bought it on the dip in late January 2019 before all of their issues with JUUL. I don't have a ton of confidence in it, but the dividend does offer a little bit of insurance and there is a chance it can still do okay. It had about a 7% yield when I bought it and their wasn't much available in the market at the time. I'm not really a dividend investor, but every now and then if I can get a reasonably stable 7% or 8% yield I'll take it.

[g23riel]

LOL Cory, your pricing directly factors in dividends and growth! You are a closet dividend investor :)

[Cory Cramer]

I've often wondered what the yield on cost of my portfolio is, but I've never taken the time to check. It's probably pretty decent even though I only rarely look at dividends (as with the case of slow growers like MO).

[ifti sumra]

will you continue buying by averaging down if it loses 70-80% in market "value" over the next 2-3 years?

[Cory Cramer]

Probably not. It's most likely I would just hold my position.

For more classic cyclical stocks I used to average down one time on the way down if the opportunity arose because it can be really hard to find the bottom with stocks that drop -60% or more off their highs and some stocks have a really bifurcated history of declines where sometimes the stock falls -50% off its highs and other times it falls -70%. I still would consider making a second purchase for some of these stocks, but now I wait until it's pretty clear a bottom has been put in before doing so instead of making the second purchase as the stock is falling like I used to.

Context plays a role as well. If we are heading into a recession, and the whole market is falling, I'm much more likely to spread my bets around on as many stocks as possible, and not make a second purchase of anything. If we are more mid-cycle, like we were in 2016, and a cyclical gets hits disproportionately hard, I would be more tempted to make a second purchase if there aren't many more opportunities in the market and recession isn't imminent.

All of my weightings for initial positions are about 1% portfolio positions, so even if I made a second purchase, it would not exceed ~2% portfolio position.

[g23riel]

@ifti sumra Cory is modest, but his database is built upon capitalizing on market volatility: it is the opposite the way one would think = where you see a sea of green buying opportunities, when those opportunities open up, and a sea of red when the market valuation is high, making you take a pause whether it is worth coming out of the equities. So, market tanks, green opportunity shows up. That's why his approach did much better than my approach: he liquidated his equities before the market dive and picked them up when they were cheap. I hedged with treasuries and lost much less than the broad market, but not as good. I learned my lesson and now I pick up where Cory finds opportunity, as there are still green available equities with good valuation. The database is the most powerful tool I have come across, that is available to investors who are not 1% richest, and at a bargain price. You don't have to take my word for it, see the live database for yourself, as Cory stands by his work and provides a completely free 2 week trial.

[Cory Cramer]

@g23riel You are too kind. I do appreciate the vote of confidence. Hopefully, we can continue to do well. The coming year is going to be pretty interesting.