Stock values increasing and decreasing in value

Looking for a Buyable Consumer Stock? Good Luck With That

Valuations are stretched in consumer staples and discretionaries. I have good knowledge of the large caps and most mid caps, and I cannot find one that would meet the 20% undervaluation hurdle that is desired at many mutual funds. Finding one with 10% plus valuation seems almost impossible as well.

This morning, I pulled my earnings discount models for about 20 stocks, wondering what is required to make them buys. Anybody who reads my articles knows that I add up to 1% to the interest rate on the long Treasury bond to get to a decent risk-free rate to counter some of the Fed's quantitative easing. Since the run-up in interest rates to 3.6% on the 30-year bond, I have added only .6%. I went through my 20 stocks and eliminated that .6%. The result was that the net present valuations of the stocks I was looking at were raised by 7-12%, depending on the levels of their expected earnings growth. But none of them became outright buys, reaching 20% undervaluation. For these stocks, 10-15% undervaluation was the best that I could get to.

Some examples:

VF Corp ( VFC ) at $197, discounting a 13% growth rate, greater than an 11% sell side estimate. Even using a 3.6% long bond results in only 8% undervaluation.

McCormick & Company ( MKC ) at $72, discounting a 9% growth rate the same as the sell side average, while only being 9% undervalued if the present 30-year long bond is used.

PetSmart ( PETM ), at $72, discounts a 12% growth rate, which I think is probably high and close to the 15% wisdom from the sell side. Use a 3.6% long bond as the risk-free rate and the deserved evaluation only goes up 10%.

Ross Stores ( ROST ) at $67 already discounts a 15% growth rate vs. a 12% sell side average growth rate. Cut the risk-free rate from my 4.2% to 3.6% and the supposed fair valuation only increases 7%. I should also say that these are just some examples from the random stocks I looked at and are not a catalog of the most overvalued.

So buying into the Fed's Kool-Aid does not justify valuations.

Therefore, the only thing that can justify consumer stock valuations is a faster longer-term rate of GDP growth in the US. Here I did some extremely crude seat-of-my-pants thinking about five-year growth rates of EPS. My thinking is that 3% GDP growth gets us to Fed tapering or tightening and my .6% addition to the long bond is appropriate. But I still cannot get to a much higher EPS growth for my companies (2-3% real GDP growth is sort of a normal base for their growth rate calculations now). Therefore, I estimate that three to four years of 4% plus real GDP growth is required to make some of my stocks outright buys.

Ascribing that sort of thinking to the market for consumer stocks, at least, has seemed like a real stretch.

Within the past week, I have seen that June CPI data show that car parts are down 1.5% for six straight months of decline versus their 3-4% average increases in the last few years. Additionally, restaurant sales have weakened noticeably in June. And the National Retail Federation just predicted that back-to-school spending will decrease 12%. The last time the National Retail Federation predicted a decline was in 2009. The implication is a not-so-merry Christmas.

As I look at Consumerland, 1% GDP growth for at least a few quarters is a better bet than the 4% that would justify the present valuations -- and which is still huge stretch.

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

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

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