Ken Fisher’s Top Stock Pick
Soroush is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
The world of hedge funds is multifaceted and often misunderstood. From Joel Greenblatt’s Magic Formula approach to David Dreman’s contrarianism, money managers implement a range of tactics to generate alpha, or outperform the broader market indices. Standing amongst some of the industry’s highest-earnings titans (here’s our Top 10) is Ken Fisher, the founder of Fisher Asset Management. Since its inception in the late '70s, Fisher’s fund has grown into a $37.4 billion behemoth, making it one of the largest of its kind in the U.S. While it is never a good idea to blindly follow the actions of successful fund managers, 13F filings provide a starting point for further research. Without further ado, here’s Ken Fisher’s top stock pick.
Johnson & Johnson (NYSE: JNJ)
Currently, Fisher holds 10,761,731 shares of JNJ in his portfolio for a total value of more than $730 million. In his last 13F filing dated late June, his position in the stock was increased by more than 6%. Since this time, Johnson & Johnson has gained a modest 1.3%, failing to reach the returns generated by the drug manufacturing industry at large (3.9%), and competitors like Novartis AG (NYSE: NVS) at 4.6%, Merck & Co (NYSE: MRK) at 5.2%, and Pfizer (NYSE: PFE) at 4.0%, but slightly ahead of Eli Lilly and Co. (NYSE: LLY) at 0.9%.
Over this same time, Johnson & Johnson did report its second quarter earnings, which were a mixed bag. Quarterly EPS was $1.30 a share, slightly ahead of the Street’s estimate of $1.29, though sales were $200 million below forecasts at $16.48 billion. Company execs blamed the miss on foreign exchange rates moving in the wrong direction, which can always affect companies like JNJ that are so heavily involved abroad.
While these developments were important, the company also reduced its year-end earnings guidance from an upper bound of $5.17 a share to $5.07, a feeble increase from the EPS ($5.00) it reported last year.
Now, from a valuation standpoint, it appears that the markets have not fully accounted for this adjustment, as JNJ currently trades at a Price-to-Earnings ratio (21.7X) above the industry average (16.1X), and the likes of NVS (16.5X), MRK (20.1X), PFE (17.9X), and LLY (12.0X). More importantly, the stock is also trading below its own 5-year (15.6X) and 10-year (18.2X) historical averages. In fact, over the past decade, Johnson & Johnson’s earnings have traded at a 7% premium to those of the S&P 500. This year, they appear more expensive, trading at a 48% premium.
From a growth perspective, this overvaluation looks more pronounced, as JNJ is trading at a PEG ratio of 2.2; typically a figure above 2.0 signals a bloated stock price. In a time when year-over-year earnings are expected to stay relatively flat, this overvaluation is not warranted, at least for the time being. Interestingly, the Street’s 2013 EPS estimates are a glistening $5.46 a share, though it is worth mentioning that even if the company hits this forecast, fairly valued shares of JNJ would only have a 4-5% appreciation by next winter. This upside is decent to say the least, but it is important to keep in mind that any future guidance readjustments will hurt this profit potential.
At its current price in the $68 range, JNJ is trading at a Price-to-Cash Flow ratio (13.0X) above the industry average (10.6X), NVS (9.9X), MRK (10.7X), PFE (10.1X), and LLY (7.9X). It is also trading above its 5-year (11.4X) historical average, even though operating (-3.1%) and free (-1.0%) cash flows have shrank in the past half-decade.
WealthLift’s Sentiment Index does rate Johnson & Johnson as a moderate buy, though the community’s outlook for over-performance is 2-4 years. For more trading ideas in today’s uncertain market environment, visit WealthLift Insider.
Fool blogger Jake Mann doesn't own shares in any of the companies mentioned in this article. The Motley Fool owns shares of Johnson & Johnson. Motley Fool newsletter services recommend Johnson & Johnson, Novartis, and Pfizer. 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. If you have questions about this post or the Fool’s blog network, click here for information.