Packaging Stock Picks

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I hate to agree with consensus, but sometimes after an honest assessment of prospects I find myself doing so. Thus, for 2014, I have joined the crowd and expect to see around a 10-15% gain in the S&P 500 by year’s end. Of course, that isn’t going to happen in a straight line. There are several things that, particularly in the first half of the year, could cause some volatility.

In the US the prospect of elections will weigh somewhat, as will continued tapering by the Fed, while internationally there are a host of possible problems. From the unfortunate chance of disruption in Sochi to elections in many emerging market countries, the possibilities for disruption are seemingly endless. The reason I remain positive for the year as a whole, however, is that there is still a real, ongoing  economic recovery in the US, and it seems to be picking up pace. The events mentioned could cause worry, but the recovery itself is resilient. It has survived the worst efforts of politicians at home and abroad over the last couple of years and is likely to continue to do so.

When news rather than economic fundamentals drive a move, it is the trendy areas that get hit the hardest; the higher they go, the harder they fall. For that reason, I am looking for a boring, steady area in which to invest for the first half of the year. For those who feel the same, I have, to misquote Mr. Maguire in “The Graduate,” one word for you…packaging.

Packaging is one of the most basic investments you can make in generalized economic improvement. Even in these days of environmentally conscious reductions in packaging, there is an awful lot of paper and plastic surrounding almost every product we buy. If we buy online and have it shipped to us, there is even more.

This is hardly rocket science so, to some extent at least, growth is priced in to stocks in the sector. Stocks such as Sonoco Products (SON: + 40.32%) and Graphic Packaging (GPK: +48.6%) outperformed the market in 2013, but not by a huge amount and valuations haven’t got out of hand. There is, I believe, still some value to be had.

SON, for example, even after 40% appreciation last year, doesn’t look particularly expensive at a forward P/E just over 16.

 

Profits have increased steadily over the last couple of years in the face of weak revenues, and the productivity and efficiency improvements that have led to that leaves SON well placed to take advantage of continued demand increases. The drop back over the last couple of days seems to set the stock up nicely, and a 3% yield doesn’t hurt either.

My other pick in the sector, MeadWestvaco (MWV) got hit hard following their last earnings release in October.

 

The 15% drop following that penny miss on the bottom line would be overdone if that were the whole story, but MWV also announced at the same time a deal to sell its forestry holdings to Plum Creek Timber (PCL). This was interpreted as being somewhat akin to selling the family silver, but as MeadWestvaco chairman and CEO John Luke said at the time, the roughly $1 Billion deal would enable MWV to renew focus on their core businesses of packaging and specialty chemicals. They did retain some South Carolina real estate and MWV and PCL announced a joint venture to develop that land. Luke is on record as saying that the majority of profit from that venture will be returned to shareholders which should give the stock a boost. MWV has recovered somewhat from that pummeling back in October, but, once again, weakness in the last couple of trading days makes for a decent entry point at around $36.

Historically, the packaging sector would be a terrible place to look for protection against volatility, which was my stated aim. The industry’s sensitivity to economic conditions has led to most packaging stocks having a high Beta, meaning that they magnify general market moves. I expect there to be moves early this year but primarily due to outside influences, while the US economy keeps chugging along. The possible negatives at home, both in terms of politics and monetary policy, are also less likely to weigh heavily on traditional manufacturing businesses. Even in a rising rate environment neither should be hit too hard as both SON and MWV have debt to equity ratios of around 0.60, significantly lower than the industry average of 1.03.

If things pan out as I expect, then that traditionally high Beta could be lowered, and packaging stocks in general could see some relatively steady gains throughout the year. If they don’t, then either we see huge gains all round, in which case SON and MWV will do just fine, or we will see a complete collapse, a scenario that looks extremely unlikely and which, as an optimist and a practical person, I’ll worry about only when and if it comes.



The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of The NASDAQ OMX Group, Inc.



This article appears in: Investing , Investing Ideas , Commodities , Stocks

Referenced Stocks: GPK , MWV , PCL , SON

Martin Tillier


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