Why Is U.S. Steel A Jumping Jack?
Past March, U.S. Steel bottomed out at $4.54, but trading now at a respectable level of $22. The stock does bounce 10% or more, intraday. A year ago, when researching $5 paper, I bought Halliburton HAL , Freeport-McMoRan FCX , Macy’s M and General Electric GE . But, I turned down U.S. Steel as a prospective spec because I didn’t like the steel industry. Too much overcapacity in the world, for years and years. U.S. Steel’s balance sheet stood debt heavy and I projected it couldn’t sustain more than a year or two of sizable operating losses.
My history in ragamuffin investing dates back to Chrysler when it was a ward of the U.S. Treasury. They called in Lee Iacocca to run the company, awarding him plenty of warrants to do so. The U.S. Treasury awarded itself warrants, too. A few years later, the turnaround done, Iacocca demanded the government give up its warrants but the Treasury said “Nyet.”
I was more than a bystander, urged on by Mike Milken to buy a boatload of preferred stock in Chrysler that institutions could no longer hold onto as fiduciaries. I saw such action decades later, in 2009, when Bank of America’s BAC $25 preferred stock sold down to $5 before Warren Buffett stepped in with a multibillion-dollar lifeline package. Warren took back billions in preferred stock, convertibles, that made him billions. Management didn’t offer me a preferred stock deal so I waded into the market that was glad to fill my bids at five bucks.
Lemme contrast junk peddling activity, by going back to a time when corporate America was respected, even revered. Late forties, I knew “comfortable” families who owned $1 stock in IBM IBM at cost. IBM in the fifties was considered a religion. Tom Watson walked on water. Later, everyone who was literate craved an IBM Selectric typewriter. I abandoned my trusty, 30-pound Royal for a Smith Corona portable.
IBM didn’t hire Jewish college graduates to pass through their intensive sales training program. Actually, neither did any of the starch white-collar corporations like DuPont, U.S. Steel, General Motors GM and especially MetLife MET , throughout the late fifties and sixties.
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To this day, I won’t buy stock in such starchy operators. Decades later, IBM stood helpless, committee-bound, and needed to call in an outsider, Lou Gerstner, who rationalized its infrastructure. A tech house that’s committee-bound is a disaster waiting to happen.
I’m indebted to Mike Milken who instilled in me the discipline of the MAD ratio. The market value of the stock has to at least equal the market value of the company’s debt. This tells you whether the ragamuffin in question has some sustainability, at least for a year or two. I violated this discipline on Lehman Brothers and watched them go under. You don’t just get a hunch and buy a bunch, but spread your money over half-a-dozen situations looking hapless.
Past 12 months, I haven’t seen any work by the Street dealing with under $10 stocks. There’s plenty on Coca-Cola, Pfizer PFE , even IBM which trades 20% below its high of $160 set a year ago. Several dozen analysts love Amazon AMZN , even Tesla TSLA , but they can’t do sharp-penciled work on these pretties. They swim in generalities.
Bouncing single-digit stocks, past 12 months, finds me rubbing my eyes in disbelief. Foolishly, I’ve just sold covered calls on positions in Freeport-McMoRan and Halliburton, and I’m under water.
I’m not that smart. Didn’t play Alcoa AA and U.S. Steel which stirred the pot. But, Halliburton and Freeport carried me for long yardage. Nasdaq 100 NDAQ looked like an old maid in comparison. For these two to be rockets from here on we need to see surging prices for oil and copper. In a surging world economy, I can make a case for $4 copper.
There are no stories in polite paper like Coca-Cola, Pfizer or Merck MRK many of the consumer discretionary stocks and healthcare. Those of us forever thirsting for leveraged earnings power have already seen doubles in big-capitalization financials like Goldman Sachs and Citigroup C . Recent months’ surge in Goldman, over 50%, put it in new high ground over the last five years. In a zippy financial setting, I see Goldie’s leveraged earnings power headed towards $15 a share, selling at 15 times tangible book value of $25 a share or $375.
There’s plenty to be made in properties with market capitalizations over $100 billion and not at the extremities of book value. Facebook, for example, sells at six times book value. Goldman conceptually can sell at two times book value and a market multiplier of 18 to 20 times earnings (in a bull market).
My next case is Citigroup which past few months popped 50% but is selling far below its year ago high when everyone expected net interest margins on loans to expand meaningfully. It didn’t happen and the stock got cut in half. Citigroup sells near 10 times optimistic earnings power this year. Capital markets covering trading, underwriting plus loan growth could surprise in an early comeback.
Now’s the time to play leveraged earnings power situations. Forget slow growth paper which is getting left in the dust. A reversal in short-term interest rates is coming, tied to inflationary expectations for oil, steel and copper. The Fed gets its wish. Inflation surges from 1% to 2%. I’m seeing U.S. Steel’s debentures moving from low eighties to high eighties.
Rising oil quotes suggest the recovery in MLPs has much further to go. Enterprise Products Partners EPD still yields over 8% on amply-covered shareholder distribution. Same goes for Williams Companies.
Bull market thinking has taken hold in the financial sector where stocks like Citigroup and Goldman Sachs trade on optimum earnings power, not what they’ll probably earn next 12 months. Same goes in the materials sector for Freeport-McMoRan and U.S. Steel.
But, lemme construe the bearish scenario for financial markets:
· The retreat in ragamuffins is a snappy 25%, practically overnight. Same goes for my beloved Nasdaq 100. I feel like Eva, expiring and singing “Don’t Cry for Me, Argentina” in sotto voce.
· If you didn’t play the market since past March, your worst fears surface.
· The Russians pull out of OPEC and pump an additional 500,000 barrels into world markets.
· Immunity from Covid-19 after vaccination is short-lived, under a year.
· Demand for Apple iPhones peaks and Microsoft MSFT begins to lose traction in cloud computing. Amazon and Alphabet along with Facebook decline in sympathy.
· Home mortgage rates spike by a percentage point along with money market rates. New home construction eases.
· The high-yield bond market sells off when money market rates hit 2%, up from 1%, practically overnight.
· The new administration’s tax reform program exceeds worst expectations on corporate rates and the personal wealth tax.
· Another major retailer lapses into receivership. The high-yield bond market sells off nearly 10%, overnight. Redemptions in high-yield bond funds cause forced selling.
· Market leadership reverts to non-cyclical sectors like consumer non-discretionary and healthcare. Merck and Pfizer act better along with Coca-Cola. Procter & Gamble PG makes a new high. Overspeculation in small-capitalization paper ends abruptly along with trillion-dollar market capitalization stocks. Facebook no longer sells at six times book value and Alibaba BABA loses its listing in our market.
Pundits then throw in the towel. All things considered, maybe the S&P 500 should sell closer to 15 times earnings, not 20 times. After all, the market was priced for perfection, they say now.
Do we get the lady or the tiger?
Sosnoff and/or his managed accounts own U.S. Steel debentures, Halliburton, Freeport-McMoRan, Macy’s, General Electric, MetLife debentures, Amazon, Goldman Sachs, Citigroup, Facebook, Enterprise Products Partners, Williams Companies and Microsoft.