With the end of the year rapidly approaching, investors are focused on shopping for much more than holiday gifts this year. As many have struggled to keep up with the mega-cap-laden benchmarks, savvy investors are combining tax-loss harvesting with opportunistic buying in areas of the market offering value. They could do worse than to parse through the companies that make up the Barron’s 400 Index, as John Prestbo so aptly explains in the latest installment of his Barron’s 400 Diary, reprinted in its entirety below. In it, John summarizes Q3 results for B400 constituents and highlights pockets of growth across sectors and market cap segments, which he then compares to changes in stock prices since this summer’s stock market swoon. John’s previous piece, which focused on stock buybacks by B400 constituents, is a worthwhile read on a topic that has garnered much attention lately. You may find a link to that particular article at the bottom of this newsletter. Enjoy!
B400 3Q Results Are Strong, but Stock Prices Lag Market
By John Prestbo – 12/04/2015
While investors are reading government data about corporate profits declining, the companies in the Barron’s 400 Index are posting third-quarter gains that spell growth every which way. The stock market hasn’t fully noticed, however.
These 380 companies—95% of the index—posted significant gains over results in the year-earlier period. Moreover, they surpassed securities analysts’ estimates for both per-share earnings and revenue, as the following table shows:
| Reported EPS Over | Reported Revenue Over | |||
| Estimate | 3Q 2014 | Estimate | 3Q 2014 | |
| Average | 8.51% | 17.56% | 1.61% | 12.43% |
| Median | 3.45% | 11.56% | 0.23% | 6.64% |
In all cases the average is higher than the median, indicating some extra-large increases were in the mix. That holds true for both per-share earnings and revenue. Average and median profit gains were larger than revenue increases. That’s a sign of some share buybacks but not completely. (See: “B400 Companies Focus on Growth, not Stock Buybacks.”) It also indicates the financially strong companies selected for this growth-at-a-reasonable-price index have the skill and business sense to wring every last penny of profit from each dollar of increased revenue.
Not all market sectors contributed equally to the Barron’s 400’s overall results, as the details in the following table demonstrate:
| Reported EPS Over | Reported Revenue Over | ||||
| Estimate | 3Q 2014 | Estimate | 3Q 2014 | ||
| Consumer Discretionary | average | 3.69% | 18.31% | 0.46% | 9.52% |
| median | 3.48% | 13.18% | 0.19% | 6.83% | |
| Consumer Staples | average | 6.58% | 57.35% | 0.60% | 10.30% |
| median | 4.46% | 8.70% | 0.76% | 3.26% | |
| Energy | average | 8.95% | 25.65% | -1.54% | -2.35% |
| median | 6.62% | 29.10% | -1.01% | -8.60% | |
| Financials | average | 8.50% | 10.98% | 6.62% | 13.53% |
| median | 1.56% | 7.32% | 3.33% | 8.81% | |
| Health Care | average | 11.63% | -8.80% | -0.65% | 40.66% |
| median | 9.68% | 16.92% | 1.10% | 12.16% | |
| Industrials | average | 2.29% | 33.48% | -0.93% | 8.04% |
| median | 2.29% | 12.20% | -0.92% | 3.41% | |
| Materials | average | 9.08% | -5.36% | -3.22% | -1.17% |
| median | 4.34% | 4.67% | -2.87% | -3.21% | |
| Technology | average | 22.08% | 15.96% | 5.47% | 13.36% |
| median | 5.50% | 12.07% | 0.77% | 8.44% | |
| Telecommunications | average | 3.87% | -0.19% | 2.80% | 11.44% |
| median | 3.87% | -0.19% | 2.80% | 11.44% | |
| Utilities | average | 6.47% | -1.10% | -11.34% | -14.00% |
| median | 2.90% | 2.97% | -10.37% | -13.61% | |
Financials and industrials, the two largest sectors in the equally weighted Barron’s 400 (with 80 companies each, the maximum allowed) posted impressive year-over-year gains in per-share earnings. Financials also had decent revenue increases from a year before, but industrials not so much. Industrials also was the sector with the most buybacks, so there is some helium in the higher profit. Energy, the size of which was trimmed significantly in the September rebalance, delivered surprisingly strong profit gains but disappointed on revenue. Materials showed expected weakness as a result of the worldwide downturn in commodity prices. Some minus signs are evident in telecommunications and utilities, but those are small sectors in the Barron’s 400 and aren’t representative of the larger market.
Though the Barron’s 400 is equally weighted, it is nonetheless informative to slice third quarter results by stock size.
| Reported EPS Over | Reported Revenue Over | |||
| Estimate | 1Q 2014 | Estimate | 1Q 2014 | |
| Mega Cap (>$10 billion) | ||||
| average | 12.94% | 9.48% | 0.56% | 2.63% |
| median | 2.82% | 10.93% | 0.14% | 3.27% |
| Large Cap ($3 bln-$10 bln) | ||||
| average | 3.57% | 13.51% | 2.73% | 7.72% |
| median | 2.70% | 10.00% | -0.24% | 5.63% |
| Mid Cap ($1 bln-$3 bln) | ||||
| average | 11.30% | 25.77% | 2.29% | 16.80% |
| median | 3.42% | 12.96% | 0.79% | 10.60% |
| Small Cap ($500m-$1 bln) | ||||
| average | 1.72% | 23.67% | 1.69% | 31.76% |
| median | 8.57% | 14.29% | 1.41% | 14.91% |
| Micro Cap (< $500 mln) | ||||
| average | 7.85% | 16.05% | -7.96% | 19.18% |
| median | 4.08% | 5.88% | -3.97% | 3.96% |
The year-over-year median increases in per-share earnings are solid across all size segments, and especially so in mid-caps and small caps. Those two segments also show respectable gains in revenue from a year earlier. Mid caps have been consistently strong this year, and it’s nice to see small caps posting reinvigorated results. Mega caps and micro caps are the weakest in median revenue growth, and micro caps have the smallest median per-share earnings increase. Micros also have the largest variation of actual results to analysts’ estimates, which is largely a manifestation of thin analyst coverage of these companies.
So, on the whole, Barron’s 400 companies did quite well in the third quarter. Alas, the same can’t be said for their stock prices, as this chart shows:
After January, the Barron’s 400 outperformed the S&P 500 through the August market collapse and into September. But after the rebalance on Sept. 21, the Barron’s 400 has tended to underperform. This raises the question: are the components after rebalance not as good as before? No, they are every bit as strong as the previous components. The median grade one week after each company reported third quarter results was 66.29, less than 0.6% below the median 66.66 before results were announced. The final median score on the previous component set was 64.15.
For the statistics-minded, the table below shows the median change of Barron’s 400 component stock prices and the change in index values for the Barron’s 400 and the S&P 500 during four periods of this year. Aug. 25 is when the market hit its low point after China announced its growth was slowing. Sept. 21 is when the Barron’s 400 was rebalanced.
| Change in Prices and Index Values Over | ||||
| 12/31/14-8/25/15 | 8/25/15-9/21/15 | 9/21/15-11/27/15 | 12/31/14-11/27/15 | |
| Median of B400 Components | -2.32% | 5.80% | 3.17% | 7.51% |
| B400 Index Value | -7.17% | 5.00% | 3.15% | 0.55% |
| S&P 500 Index Value | -9.29% | 5.32% | 6.26% | 1.52% |
Only one column in this table has any relevance to the currently composed Barron’s 400, and that’s the period of Sept. 21 through Nov. 27. The index in the other periods was comprised entirely of previous components (which were outpacing the S&P 500) or a mixture of previous and current ones. It is the current components whose median price moves are shown in the first row.
Obviously there is a disconnect between reported third-quarter results and stock-price moves since Sept. 21. About the only thing the component companies have in common during this period is announcing their financial performance. One would think Wall Street’s super stock pickers would have noticed, but the next two tables suggest they must have been looking the other way.
| No. Cos. | Median Change in Stock Prices 9/21/15-11/27/15 | Median Change in YoY 3Q EPS | |
| Consumer Disc. | 77 | 0.28% | 13.18% |
| Consumer Staples | 23 | 4.83% | 8.70% |
| Energy | 16 | 0.72% | 29.10% |
| Financials | 80 | 9.51% | 7.32% |
| Health Care | 41 | -3.15% | 16.92% |
| Industrials | 80 | 4.18% | 12.20% |
| Materials | 19 | 7.31% | 4.67% |
| Technology | 55 | 7.92% | 12.07% |
| Telecommunications | 2 | -4.89% | -0.19% |
| Utilities | 7 | -3.54% | 2.97% |
In every instance except two the year-over-year increase in per-share earnings greatly exceeded the movement in stock prices—by double or more in several instances. The two exceptions are the financials and materials sectors. Financials were attracting investors because the Fed’s impending move to raise interest rates would likely make banks more profitable. Materials benefitted from a handful of superstars that make specialty chemicals, paper products and resources for construction projects. They shone very brightly in a sector that otherwise was marked by heavy losses and depressing outlooks.
The number of companies for each sector and size segment is shown because in the equally weighted Barron’s 400 the ones with the most companies have a larger influence on the index. Thus, financials and industrials, with consumer discretionary close behind, affect index performance more than materials or utilities. Similarly, the mid-cap segment carries more than twice the weight of small-caps.
The best explanation for lackluster market performance coincident with good earnings and sales growth lies in behavioral finance. Sometimes investors get so caught up in the big trends they fail to notice the exceptions. If the big trends are bad news—such as slowing global growth, less international trade, cautious consumer spending and increased terrorism—many investors tend to paint everything with the gloomy brush. Counter-trends are viewed skeptically or ignored altogether. Even super stock pickers can become distracted by the big trends.
There is a silver lining in this cloud, however. For now, the demonstrated growth potential in the Barron’s 400 is really reasonably priced. That might be an opportunity for investors who believe these companies’ third-quarter strength was no fluke and will be repeated. The market can shift its attention quickly from macro trends to individual stocks, and the Barron’s 400 stands ready to benefit.
