Best 10 Stocks to Invest in if the Economy Enters a Recession
In January this year, a Bloomberg survey found that analysts saw a median 25 percent chance of a slump in the next 12 months, up from 20 percent in the December survey, and at a six-year high.
The January survey was conducted within a scenario of an ongoing trade war with China, the government shutdown, and rising volatility in the financial markets.
That survey came upon the heels of a December 2018 survey of US CFOs by Duke University that showed 82% expected a recession to begin by the end of 2020.
Prior to that, on the 10th anniversary of the Great Financial Crisis, a host of media articles were written around the lines of:
Did we learn our lessons?
Could it happen again?
What factors could cause a repeat of the events, and the recession that followed?
With rising mention of the 'R-word,' it may be worthwhile to take a brief look at recession's first principles.
The National Bureau of Economic Research (NBER) defines a recession as "a significant decline in economic activity spread across the economy, lasting more than two quarters which is 6 months, normally visible in real gross domestic product (GDP), real income, employment, industrial production, and wholesale-retail sales."
The NBER is an American private non-profit research outfit that also maintains an unofficial log of the recessions in the US and their tenures.
Typically, recessions feature a decline in consumer and business confidence, a weak employment market, and sluggish manufacturing and commercial activity. These factors result in falling real incomes in the economy.
Over the last two decades, according to the NBER, the US economy suffered the following two recessions:
March 2001 - November 2001 (Eight months) - Collapse of the dot-com bubble, the 9/11 attacks and a fall in business investment
December 2007 - June 2009 (One year, six months) - Collapse of the housing bubble, the sub-prime mortgage crisis, the failure of Bear Stearns, Lehman Bros, Fannie Mae, Freddie Mac
The second-named above, also called the Great Recession, was tackled by the US Fed, and other central banks around the world, through massive economic stimulus such as lowering interest rates, asset purchases and governmental support to affected institutions and banks.
Late last month, the US Department of Commerce announced that during the first quarter of 2019 the gross domestic product (GDP) of the US economy grew at a 3.2% annualized rate. This measure was well beyond expectations, and effectively put paid to apprehensions of a slowdown. “I just can’t point to anything now that’s going to push us into recession,” said Ben Herzon, an economist with Macroeconomic Advisers, a forecasting firm.
Looking under the GDP hood, however, it's clear that the large gain in inventories may be worked off in subsequent quarters by lower production.
The simmering trade war may also take a toll on imports and production (and therefore, GDP) by American firms.
As this is being written, President Trump said that tariffs on $200 billion of Chinese goods will increase to 25% (from 10%) on Friday, May 10, 2019.
He also threatened to impose 25% tariffs on a further $325 billion of Chinese imports “shortly.”
Meanwhile the US jobs market continues to run hot, as borne out by the non-farm payroll data for April 2019. The report showed that unemployment fell to a new 49-year low as payrolls rose by 263,000 in April, with the jobless rate falling to 3.6%.
However, note that the bullishness of the job market did not rub off on the hourly wage rate - that remained static at 3.2%. Also, the decline in the unemployment rate is partly also attributable to a decline in the participation rate, or the share of working-age people in the labour force, which fell from 63% to 62.8%.
Fed View: No Overheating
“We don’t see any evidence at all of overheating,” Federal Reserve Chair Jerome Powell said when asked about the solid GDP reading for the first quarter. He relied upon low inflation because data on core personal consumption expenditures - the Fed’s most preferred measure of inflation - showed prices rose by only 1.6% in March. That figure is comfortably short of the Fed’s inflation target of 2%.
The Fed held interest rates steady at its last meeting.
Buffett's View: Something's got to give
Commenting on this virtuous economic phenomenon of GDP growth, low unemployment, stagnant inflation, interest rates not rising and deficit spending, Warren Buffett said last week:
“No economics textbook I know that was written in the first couple of thousand years that discussed even the possibility that you could have this sort of situation continue and have all variables stay more or less the same,” he said. “I think it will change, I don’t know when, or to what degree. But I don’t think this can be done without leading to other things.”
Notwithstanding the above bullish economic data, one of the most reliable predictors of an oncoming recession is the inverted yield curve - also described as Wall Street's "fear gauge" - created when the plot of a short-term yield rises above that of a longer-term one.
The inverted yield curve has been highly successful in predicting looming recessions since WWII.
On March 22, the 10-year Treasury yield slipped below the three-month T-bill yield for the first time since 2007. The inversion caused intense media speculation on the likelihood (or not) of a US recession.
This may have been only transient, but it's a warning signal not to be taken lightly.
A Recession Probability Indicator computed by the New York Fed, derived from the Treasury spread between the 10-year bond rate and the 3-month bill rate, shows that the probability of a US recession hitting in April 2020 is now 27.49% - the highest since the Crisis.
So, what's to worry?
Plenty. Remember the old adage that says the market is the weakest when it looks its absolute strongest? Here are factors, one or more of which could trigger the next recession:
Gary Shilling: Emerging markets' dollar-denominated debt of $8 trillion (in a scenario of rising interest rates and the strengthening dollar)
Jim Stack: Low-quality US corporate debt
Ray Dalio: Overpriced financial assets, wealth gap, limited options for central banks to tackle the next crisis, because quantitative easing and ultralow rates have already been largely maximized
JPMorgan: Reversal of the $10 trillion in assets purchased by central banks during the stimulus targeted at the financial crisis - such outflows (or lack of new inflows) could lead to asset declines and liquidity disruptions - the main attributes of the next crisis.
Nouriel Roubini: High equity PE ratios, excessive private equity valuations, expensive government bonds and high yield credit; excessive leverage in many emerging markets and some advanced economies
These factors apart, remember that booms and busts are an inevitable part of economic cycles, and a recession could be around the corner for the simple reason that it's been ten years since the last one!
Therefore, don't wait for the music to stop, instead be prepared.
So, where do I hide?
Here are some ideas for recession-proof investing:
High-quality, well-run companies that regularly pay dividends
Defensive sectors such as retailers ("people still have to eat"), healthcare ("you can't wish away medicines and medical care"), tobacco and liquor ("smokers will smoke, recession or not"), utilities ("can't do without the heating"), staples ("household stuff"), entertainment ("movies and TV - essential to lift the doom and gloom"), mobile telephony and precious metals
High-growth companies in emerging markets that have lower PE multiples compared to domestic companies
Our stock picks
1. The Walt Disney Company (NYSE:DIS)
Disney scored a resounding beat in its earnings report for the December 2018 quarter. EPS was $1.84 which surpassed expectations by $0.27 and revenue of $15.30B beat by $96.50M.
The company has consistently paid dividends, and current yield is in excess of 1.5%.
Disney has upped the stakes in the digital media world with the closure in March of its massive $71.3B acquisition of the entertainment assets of 21st Century Fox. Apart from the powerful potential for content that will enter its fold, Disney will also save $2B in costs.
The company's Avengers: Endgame movie blockbuster has become the No 2 movie ever worldwide after Titanic, with box office takings of $2.19B global through Sunday.
The market is also upbeat about Disney's proposed direct-to-consumer streaming launch of Disney+, a video service to be offered at $6.99 per month.
Shares of Disney are expensive at $134.90, with forward PE ratio of 20.20 and a price/book of 4.00. Technically, however, the stock has broken decisively out of a multi-year consolidation, and is in an upward trend.
2. Costco Wholesale Corporation (NASDAQ:COST)
The company is a membership-based wholesaler of a range of goods for everyday use.
COST regularly pays a dividend and has maintained a positive dividend growth for the past 15 years. The upcoming quarterly dividend is $0.65, hiked from $0.57. For the latest quarter it reported EPS of $2.01, which beat by $0.32 and revenue of $35.40B (up 7.28% year-on-year) that missed by $254M.
Currently trading at $243.50, the stock trades at a forward PE of 30.65 and Price/book of a hefty 7.77. Expensive valuation aside, growth is strong. Comparative stores sales were up a decent 7.2% year-on-year in the latest quarter, while e-commerce sales moved up handsomely by 25.5%.
The stock has been in a strong uptrend for years, and more recently, the sizable correction end-2018 has been forcefully bought into. It is marking time at previous highs and may suddenly resume its uptrend.
3. The Clorox Company (NYSE:CLX)
The company sells home care, cleaning, laundry additives and many household items through its Cleaning, Household, Lifestyle and International divisions.
These are recession-proof lines of business as demand is fairly inelastic regardless of economic conditions.
Often referred as a dividend aristocrat, CLX has maintained a growth in its dividend payouts since 1978, or 41 years.
For the March 2019 quarter, the company missed on both EPS and revenue counts. EPS of $1.44 was off estimates by $0.03, while revenue of $1.55B disappointed by 22.50M. However, the company has a strong and diversified brand portfolio, has boosted its e-commerce sales, and managed to grow its margins despite commodity cost pressure.
Currently trading at $147.68, the stock is off nearly 12% from its 52-week high. But the correction has brought the stock to an important support range at $140-$145, at which point recession-wary investors could consider a partial entry.
4. Diageo plc (NYSE:DEO)
Diageo is a global producer and marketer of alcoholic drinks and beverages such as spirits, beer, cider, and wine. Its world-renowned brands include Johnnie Walker, J&B, Smirnoff, Baileys and Guinness. It owns 20 of the world's top 100 alcoholic brands and has a heritage going back to the 17th century.
Diageo is as recession-proof an investment as they come, because people drink regardless of a recession or not.
The company has an unbroken record of dividend payment since 1998.
Currently, the stock trades at $167.33, giving it a market cap of $100.42B and a forward PE ratio of 24.13. Though expensive, over the past decade Diageo's levered free cash flow has grown at 17.27% CAGR. It generated a gross margin of 79.67% and a return on equity of 34.45%.
5. Accenture plc (NYSE:ACN)
Accenture is a global technology company providing services through its Communications, Media & Technology, Financial Services, Health & Public Service, Resources and Products segments.
The company has been growing its dividend payout every year since the last nine years. It earns a dividend yield of 1.65%.
For its quarter ended February 2019, Accenture reported EPS of $1.73 which beat by $0.16, and revenue of $10.45B, which was up 9.06% year-on-year and beat estimates by $156.48M. It generated a free cash flow of $1.2 billion during the quarter and held a cash balance of $4.5B.
The company is a beneficiary of robust demand for digital, cloud and security-related services.
At a stock price of $176.52, Accenture has a market cap of $112.88B, a forward PE ratio of 24.18, and a Price/Book ratio of 8.46.
Technically, investors scooped up shares of Accenture during the correction in the last few months of 2018, and the stock has taken out its 2018 high.
6. Vertex Pharmaceuticals Incorporated (NASDAQ:VRTX)
Vertex develops medical therapies for the treatment of cystic fibrosis.
The company has a huge chunk of the market to treat the estimated 75,000 patients of cystic fibrosis worldwide through its Kalydeco, Orkambi, and Symdeko drugs.
Further technical development such as triple drug combinations and gene editing, if successful, would give the company a global monopoly in cystic fibrosis treatment.
At the current price of $174.81, Vertex has a market cap of $44.53B, a forward PE of 40.13 and a price to book ratio of 9.44. Cash held as at the end of the quarter was $3.48B.
The company has not declared dividends, however.
It's an expensive and volatile stock but a good exposure to the healthcare industry.
Technically, it is consolidating but making higher lows on the monthly chart. A breakout could occur anytime.
7. China Mobile Limited (NYSE:CHL)
China Mobile is a provider of mobile telecommunications, wireless Internet service, as well as digital applications comprising music, video, reading, gaming, and animation, wire line broadband services; and wire line voice services and related services in Mainland China and Hong Kong.
It is now expanding into Internet of Things (IoT) and cloud computing. It is also spearheading the advent of 5G in China.
It is one of biggest telecom companies in the world, but is also a somewhat risky investment given that it based out of China and is state-owned. Regardless, you can't ignore this behemoth that has a market cap of nearly $200B and mobile connections over 900 million.
Currently trading at $47.26, China Mobile offers a dividend yield of 4.58% and a modest forward PE ratio of 10.74.
The stock is 15.37% below its 52-week high, but trading near a crucial, multi-year support line.
8. Sempra Energy (NYSE:SRE)
Sempra Energy is a provider of electric and gas services both within and outside of the USA.
Utility companies such as Sempra generate favourable returns for investors in a low inflation environment. Inflation has remained well below the Fed's target rate of 2%. The Fed recently held interest rates steady, and utility stocks may therefore still hold promise. Utilities are a typically defensive stock recommended for investment in a slowdown or recession.
Sempra is trading at $126.39, has a market cap of $34.94B, a forward PE of 21.19 and a Price/Book ratio of 2.34.
The stock provides a dividend yield of 2.83% and has grown its dividend for 8 years.
The company is engaged in a comprehensive restructuring to deliver on its plans to become the leading energy infrastructure company in the country. It sold off its US solar and wind portfolios, as well as its non-utility US natural gas storage. It expects to receive approx. $2.5B from divestitures.
The company also recently completed the evaluation of its South American businesses prior to their proposed sale. "Although, we expect this transaction to be EPS dilutive, it could be value accretive, as we deploy the proceeds into North American T&D infrastructure and strengthen our balance sheet," the company said on its February earnings call.
The company expects to complete 3 trains of its Cameron LNG export project within 2019. Earnings from Train 1 are expected by mid-2019.
Technically, the stock has broken out of a 4-year sideways trading range and may be headed higher.
9. Duke Energy Corporation (NYSE: DUK)
Another utility, Duke has similar chart action as Sempra and is likely to break out of a 4-year consolidation that took the shape of an ascending triangle.
Duke operates as an energy company in the United States with three segments: Electric Utilities and Infrastructure, Gas Utilities and Infrastructure, and Commercial Renewables. It was named to Fortune magazine’s 2019 list of the World’s Most Admired Companies for the second consecutive year. Duke also achieved nuclear capacity factor above 90% for the 20th consecutive year in 2018.
Trading at $89.48, Duke has a market cap of $65.61B, a forward PE ratio of 18.28 and a price to book of only 1.50.
Duke gives a decent dividend yield of 4.14% and has grown its dividend for 12 years.
10. Newmont Goldcorp Corporation (NYSE:NEM)
After its merger with Goldcorp, Newmont has become the world's leading gold company with a very strong portfolio of gold mines, reserves and projects across the globe in favourable jurisdictions. It aims to produce 6 - 7 million ounces of gold annually and boasts an investment grade balance sheet.
Newmont and Barrick Gold have merged their Nevada gold assets in a JV with Newmont holding 38.5% share.
Newmont pays a quarterly dividend of $.14 and its current dividend yield is 1.85%. It has grown its dividend for the past 3 years. It intends to also pay a special dividend of $0.88 on May 1.
Gold is a natural hedge against inflation or a recessionary meltdown. The sector is witnessing a spate of mergers and consolidations as gold prices have remained subdued and mining companies seek to achieve synergies and cost savings.