Editor's Choice

An Analysis of Barron’s 10 Stocks for 2013- Part I

Justin is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Barron’s is out with their 10 favorite stocks for 2013.  I highlighted their performance in 2012 and they did a good job with market-beating success.  These lists always elicit plenty of emotions from investors of all varieties, but it helps to put a little context into the picks.  First, I believe Barron’s tilts toward the large-cap space and seeks a group beta roughly in-line with the S&P 500.  They also diversify across several sectors in their picks, so don’t expect 5 financial stocks or a plethora of technology picks.  I will breakdown their recommendations in two parts to limit the size of the reading.  Today I will evaluate the first five recommendations and surprisingly I don’t hate any of them.  Still, let’s dive into the details and see where investors should position themselves for 2013.

Barron’s first pick is classic buy the dip fundamental analysis.  They favor Apple (NASDAQ: AAPL), whose shares have traded down more than 20% in recent months.  Barron’s cites the valuation as the basis for the recommendation and clearly the shares are cheap.  In fact, the shares are exceptionally cheap with a price-to-earnings ratio of 12x, a free cash flow yield of 11%, and still robust growth opportunities in coming years.  Amazingly, the company has been able to grow returns on invested capital from an exceptionally high base (below)


<img src="/media/images/user_36/apple-roic_large.png" />

So we all love Apple, right?  While I do agree the stock is cheap, I do think there are concerns that cannot just be glossed over.  Lower margins seem inevitable with competitors such as Samsung making greater inroads and telecom carriers starting to yield some of their power as well.  The company has had two consecutive bad quarters which cannot be ignored.  It seems like everyone on Wall Street covers the company and generally this “attention” makes it harder to outperform.  What else makes it less likely for the stock to surge from here?  The fact that Apple, at half a trillion dollars, is already the largest in the world based on market capitalization.  This is more than twice that of Google- the third largest.

I will agree with Barron’s on this call, but I think most of the upside in the name comes in the second half of the year.  While I do think outperformance will accompany the shares in 2013, I don’t expect any of the explosive moves that the shares have enjoyed on several instances in the last four years. 

Barron’s second recommendation is Blackrock (NYSE: BLK).  They base their recommendation on a modest price-to-earnings ratio, favorable 3% dividend yield, and a dominating iShares brand.  I agree with this line of thinking and would add that I favor a double-digit return in the U.S. equity market that should start to transition assets away from fixed income and toward equity ETF products that fall under the iShares banner.  While Blackrock does good business in the fixed income arena, their equity offering is more than twice the size of their fixed income business.  Household financial assets are currently 35% equities and 20% bonds.  During the worst of the crisis it was 25% stocks and 22% bonds, so the trend is improving in favor of equities.  Contrast this with 2000 when it was 50% stocks and 13% bonds.  Suffice it to say, there is plenty of opportunities for Blackrock’s guidance of 5% to 6% organic growth to prove conservative if equities continue to inch toward the previous peak at 50% of household financial assets.

Barron’s only small-cap pick is Barnes & Noble.  I do think small-caps will outperform in 2013 and I applaud Barron’s for making somewhat of a bold call here.  The stock has been washed out and may have big upside if things go the company’s way in 2013.  However, I just don’t see it from my perspective.  The company is losing money on a consistent basis and visibility remains cloudy. 

Staying with the consumer discretionary sector, I would recommend investors consider Ford (NYSE: F).  The growth in automotive sales has much more visibility than Barnes and Noble’s bottom line.  Sales of U.S. auto sales are pacing in the 15 million at an annualized rate; a clear recovery from the depths of the Global Financial Crisis when annual sales collapsed to 9 million.  Just released November sales were up 15% from a year ago.  Supporting the favorable backdrop is the Federal Reserve’s promise to keep rates at exceptionally low levels until the unemployment rate drops below 6.5%.  Cheap financing lowers a perspective buyer’s monthly payment and helps spur demand for new vehicles.  And lastly, I think the key point that sends shares higher is outperformance in Europe.  I have been very critical of Europe all year, but I think a cyclical rally unfolds in 2013 given exceptionally dismal expectations.  Ford achieves 25% of sales from the region.  Any modest improvement in Europe for 2013 should be the impetus for Ford shares to outperform the S&P 500 in 2013.

Barron’s industrial pick is that of General Dynamics.  This leading defense company has seen its stock suffocated on the prospects of sequestration.  General Dynamics was actually on my list for 2012 as I evaluated Barron’s picks for the current year.  I still favor the stock and think it is best suited for buy and hold accounts that favor strong dividend growth, modest stock price variability, and capital appreciation potential all rolled into one. 

General Dynamics is a good pick from my perspective, but I personally favor peer Textron (NYSE: TXT) as the better name to own in 2013.  Cessna over Gulfstream for the upcoming year, but I think business jets are a secular theme that will favor both stocks for years to come.  Textron is a bit more levered to business jets and industrial goods compared to General Dynamics.  GD garners about 70% of sales from defense whereas Textron is in the 20-30% range.  So until the “fear of deficits” has dissipated a bit, I would favor Textron over GD.  I also favor Textron on the backdrop that higher risk and higher beta names will reap outsized gains in the context of double-digit equity returns.  Those that are more bearish toward the equity markets should certainly favor General Dynamics.

Barron’s adds a second pick in the financial sector, that of JPMorgan Chase (NYSE: JPM).  Barron’s credits the company with being best in class and I wholeheartedly agree.   The company has bolstered capital levels in recent years and is one of the few financial institutions that I trust given how easy it is to manipulate the financial statements.  This stock should outperform under the leadership of Jamie Dimon.  Not only that, but the valuation is at a generational low on this stock (below).  Are ROE levels going to suffer as leverage is reduced?  Sure.  But the price-to-tangible book ratio stands at 1.2x and is overly depressed on rock bottom expectations.  The stock just might gain the 32% needed to take out the 2000 all-time high of $58.

<img src="http://media.ycharts.com/charts/929dcb1c8c54ba1f971b2de41c11ce7b.png" />

JPM Price / Tangible Book Value data by YCharts

All told, I was surprised that I agreed with Barron’s as much as I did.  I could have agreed on four of the first five picks, but as it stands I ended up agreeing with three names- Apple, Blackrock, and JPMorgan Chase.  These three picks form a good foundation with best of breed principals.  I favored Ford and Textron to round out the first five picks.  Both of these recommendations support secular themes that are still in their infancy, but do rely on global growth showing signs of acceleration. 

I will follow-up with the Barron's final five recommendations and my thoughts on each in the next publication.

market8 has no positions in the stocks mentioned above. The Motley Fool owns shares of Apple, Ford, General Dynamics, JPMorgan Chase & Co., and Textron. Motley Fool newsletter services recommend Apple, BlackRock, and Ford. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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