Whenever you see the markets slump badly, you need to look at
the other side of the coin. You should ask yourself, "What
investments can actually prosper from a darkening economic
Well, we know that
rally sharply. For example, the
iShares Barclays 20+ YearTreasury Bond ETF (NYSE:
has risen more than 15% in just the past two months.
Commodities also suffer -- mightily. From oil to iron ore to
copper to silver, many commodities have been seeing heavy selling
pressure. And that's made it tricky to find a bottom among
stocks, as my premature addition of
$100,000 Real-Money Portfolio
in late April can surely attest. I still think this stock is vastly
oversold, but a move back into the $40s or $50s won't come until
the European crisis stabilizes.
Whenever you hold a stock that is a victim of a key trend, you
should look to balance your exposure by finding stocks that benefit
from that same trend. Which got me thinking: What companies are the
prime beneficiaries of lower commodity prices?
Auto makers like that steel prices are falling. Airlines are
surely sighing with relief as crude oil prices move sharply
Even the more obscure commodities are plunging. For example, I bet
you didn't know butadiene prices have fallen roughly 30% in just
the past two months. Butadiene is a form of synthetic rubber that
was discovered by a chemist in the 19th century, but came into
vogue in World War II when it became difficult for global buyers to
secure contracts with owners of rubber tree plantations.
Ever since, global tire makers have come to rely on butadiene in
ever-increasing quantities. So there is a rare bit of cheer in
corporate America, as our nation's tire makers will soon be able to
deliver the good news to investors that expenses are falling. The
loudest cheer may be coming from
Goodyear Tire & Rubber (NYSE:
. Butadiene accounts for roughly one-quarter of Goodyear's raw
material expenses. Actual rubber is Goodyear's biggest material
cost, and the fact that rubber prices have also slumped 16% in the
past two months also helps.
Too soon to pop the cork
This doesn'tmean Goodyear is on the cusp of a major
surprise. Auto makers and after-market tire centers may have held
off on orders in recent weeks for more tires, leading to a slight
miss on the top line in the current quarter. More to the point,
butadiene and rubber are contracted in advance, and it won't be
until the third quarter -- which begins next month -- that Goodyear
will start to see real expense relief.
Yet when that relief comes, it should be significant. Consider
this stat: Every 1% decline in raw material costs can boost
earnings per share (
by 25 cents, according to the company. The fact that Goodyear was
able to raise prices by 6% on April 1 tells you that gross margins
could really surge later this year.
Of course, this is a volume-sensitive business. And total demand
for tires has weakened even further since I profiled Goodyear
in early May
have dropped 15% since then, mirroring the drop of many other
stocks in recent weeks, though this is the rare case of a stock
that may actually see rising
forecasts for the second half of 2012 and beyond. Before valuing
this stock, let's take a look at some key numbers, which as I noted
back in early May, must surely appeal to the Graham & Dodd
value investing crowd.
Analysts at Merrill Lynch calculated the
forecast for 2012, 2013 and 2014 in the table above
butadiene and rubber prices began to fall. Now, in early June,
Merrill's analysts would likely trim their sales forecasts a bit,
but they are likely to lower their expense assumptions by an even
greater amount. Translation: those operating income forecasts have
a clear bias to be raised.
The fact that this stock trades for less than four times
projections highlights the value appeal. Even a straight ahead EPS
analysis brings home the point. This is a stock trading below $10
that is likely to earn around $2 a share this year and in the range
of $2.50 to $3 a share in 2013, as falling raw material costs cycle
. Trading for roughly three to four times 2013 EPS forecasts makes
this one of the cheapest stocks in the S&P 500. The fact that
EPS forecasts for Goodyear don't hold the same risk as many other
stocks is clearly unappreciated by the markets right now.
Then again, this is a company growing accustomed to being
unappreciated. Goodyear has delivered
in three of the past four quarters that were at least 140% higher
than the consensus. I am not anticipating a similar level of upside
for the current quarter due to the delayed impact of the raw
material pricing. But unless analysts start to raise their view for
the third and fourth quarters, Goodyear is again set up to surge
past forecasts in the third and fourth quarter.
The Downside Protection -->
Auto sales have been solid in the United States thus far in 2012,
though they remain very weak in Europe and have been cooling in
Asia and Latin America. This global weakness is why shares have
fallen from $35 in 2007 to $18 last summer to a recent $9.50. If
U.S. auto sales start to tumble, then this stock could easily fall
to $7 or $8, so a stop loss order in that range makes sense.
[block:block=16]Don't let Goodyear's $3.1 billion in debt scare
you off: it doesn't face a major
payment until 2019, as the company is one of many to take advantage
of the sharp drop in corporate bond yields over the past few years.
Meanwhile, debt-to-equity, which hit 182% in 2010, should fall to
133% this year and below 75% by 2014.
Upside Triggers -->
There is one near-term trigger in place here: the falling raw
material prices I noted above. The long-term opportunity comes from
an eventual stabilization in European auto sales, which could see a
powerful snapback considering the long-delayed replacement cycle
for many cars on European roads. At that point, Goodyear's
operating income might settle into the $1.5 billion to $2 billion
annual range, which is not far from the company's entire $2.3
Action to Take -->
I will be buy 600 shares of Goodyear (or roughly $5,400 worth) 48
hours after you read this. Shares can be bought under $12. To free
up cash for this purchase, I will sell my remaining 300-share stake
Direxion Daily Small CapBear 3X ETF (NYSE:
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-- David Sterman
David Sterman does not personally hold positions in any
securities mentioned in this article. StreetAuthority LLC owns
shares of FCX, TZA in one or more if its "real money"
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