Tag Archives: seeking-alpha

Dynegy: A Growth Story About To Begin

Dynegy has mainly expanded inorganically through acquisitions. Substantial free cash flow generation and margin improvement are preparing the way for upside. Be on the lookout for any dips on which to buy Dynegy’s shares. Small cap companies offer investors the benefit of potentially increased returns with the downside of increasing volatility and/or risk in the investor’s overall portfolio. This risk can be mitigated through the inclusion of large cap and mid cap stocks as well as diversification through the purchasing of stocks of many small cap companies. Another way to increase the stability of these small cap investments is to make these investments in industries that are more stable, such as utilities and/or industrial industries. These industries retain their stability through inelastic consumer and/or firm demands as well as diversification across multiple other industries. With the infusion of small cap status into a firm in these industries, investors can benefit from the growth of the small cap in addition to the stability that comes with being in steady industry. Small cap utilities companies are one such combination of capital appreciation and capital preservation. Dynegy Inc. (NYSE: DYN ) is one such company that possesses these two characteristics, and based on investor sentiment, the shares are essentially up for grabs. The company owns a series of power generating facilities across the Midwest, Northeast, and West coast regions on the United States, so the company is mostly specialized in terms of customer concentration. The company diversifies its energy facilities across multiple utilities submarkets, including coal and gas; this adds the benefit of indirect additional diversification to investors in that investors who purchase the company’s shares get that indirect diversification. Some of the company’s major business segments include its Homefield Energy segment and its Dynegy Energy Services business. From looking at the company’ stock chart, investors can see that the company’s shares have gone on a bit of a roller coaster over the past few years. Capital invested at the beginning of calendar year 2013 would have generated essentially a zero percent return on investment throughout 2015. The shares have gone from a low of about $17 all the way to a high of about $36, and the shares have fallen all the way down again, so the shares are a bit volatile. In technical terms, the 50-day moving average has danced around the 200-day moving average, with the former going above and below the latter multiple times throughout the course of the past three years. Most recently, the 50-day moving average has once again dipped below the 200-day moving average, which could indicate near-term downside, as the spread between the two indicators seems to be widening. (click to enlarge) Source: Stockcharts.com From a fundamental perspective, the company is in a solid financial position: liquidity ratios indicate that the company’s financial health is in good order. The current ratio, quick ratio, financial leverage ratio all have hit all-time highs. However, it also appears that the debt to equity ratio has also hit an all-time high as well, with the ratio at about 2.5. The reason for this is because of the way the company grows. The company has expanded mainly through inorganic growth, and it has accomplished this by using a substantial amount of debt to fund its acquisitions. Some of its more recent acquisitions include the acquisition of Duke Midwest for $2.8B , which is extremely large for a company with a market cap of just under $3B. Although this particular method of growth has worked for the company, the fact of the matter is that the company’s capital structure has changed to include about 75% debt, which is certainly a lot. Thus, as the number of financial covenants begins to mount up, the company will become limited in the activities it can conduct, including further acquisitions. The company will have to be careful to ensure that the amount of debt that it takes off will not cripple its operations. Positive aspects of the company is that it has been generating large amounts of free cash flow recently, which the company can either use to reinvest back into the company or distribute it to shareholders in the form of share buybacks or dividends. In fact, the company began a share buyback program for $250M, which the company has already completed half of, so it appears that the company is committed to keeping shareholders happy. The amount of free cash flow that the company has historically generated has been negative, so this is definitely a positive trend for the company. Furthermore, cost reductions have resulted in margins that are beginning to stabilize, which could also boost free cash flow in the mid-term. All-in-all, it appears that the company has an uncertain future. However, the shares have dipped all the way back to their original price in 2013, so now could be a good time to buy. The fact that the company’s margins are getting better and that the company is beginning to generate substantial free cash flow is always a good sign. Be on the lookout for any further share dips to buy on.

What Drives The Financial Sector?

Summary The financial sector is the second largest component of S&P 500. Its performance to a large extent is a combination of long equities and short bonds. XLF’s performance clearly illustrates the diversification benefit an investor achieves as opposed to individual stock investment. With a 16.5% share, financial sector stocks currently account for the second largest part of S&P 500, trailing only behind the information technology sector. According to ETFdb , there are 41 ETFs tracking U.S. financial stocks. By far the largest of them is the Financial Select Sector SPDR ETF (NYSEARCA: XLF ), which has $18.5 billion of assets under management (AUM), exceeding the total number for the remaining 40 funds combined. In this article I would like to probe the main contributors to XLF returns, splitting them into two categories. The first one contains broad market forces, or so called factors, driving the ETF’s performance. The second category includes the largest individual holdings, which set the tone for overall funds performance. Factor analysis Analyzing daily price changes from the last 12 months, the simple factor analysis on risk analysis tool InvestSpy gives the first insight into the driving forces behind XLF returns. Using asset classes as explanatory variables, the results table looks as follows: The practical interpretation of this output is that to replicate performance of $1,000 invested in XLF as closely as possible, an investor would need to buy $1,000 of the Vanguard Total Stock Market ETF (NYSEARCA: VTI ), whilst shorting $580 of the Vanguard Total Bond Market ETF (NYSEARCA: BND ), $80 of the SPDR Gold Trust ETF (NYSEARCA: GLD ) and $10 of the United States Oil Fund (NYSEARCA: USO ). The important takeaway is that essentially XLF acts as a combination of long equities and short fixed income. The coefficients estimated by this basic factor analysis enable one to project potential performance of XLF in various market scenarios, incorporating views about stock and bond markets. Largest holdings XLF has 87 holdings, which range from banks to insurance companies to real estate investment trusts. Whilst 82 of these positions have a weight below 3%, each of the largest 5 holdings accounts for more than 5%. This means that 37% of the AUM is invested in only 5 stocks, naturally making them the primary drivers of the fund’s returns. Wells Fargo & Company (NYSE: WFC ) – 8.7% weight Berkshire Hathaway Inc. Class B (NYSE: BRK.B ) – 8.4% JPMorgan Chase & Co. (NYSE: JPM ) – 8.2% Bank of America Corporation (NYSE: BAC ) – 6.1% Citigroup Inc. (NYSE: C ) – 5.4% Over the last 12 months, these five stocks contributed 0.70% to XLF total return of 1.2%. Four out of five largest holdings are banking stocks, which, upon further inspection, demonstrate fairly similar risk characteristics: Source: InvestSpy All four banking stocks have a beta coefficient above 1, showing higher than average sensitivity to the broad market movements. Their annualized volatility ranging from 19.2% to 24.8% substantially exceeds that of the SPDR S&P 500 Trust ETF (NYSEARCA: SPY ), which stood at 15.0% over the same period. BRK.B is a bit of an outlier here and exhibits more contained risk parameters, largely due to the fact that it is to a certain extent a funds in its own right, heavily tilted towards value stocks. Further analysis of the correlation matrix reveals that the same BRK.B is the position that is most correlated to the S&P 500 index with a coefficient of 0.87. Comparing with other top holdings, BAC appears to be the position that is most independent. Source: InvestSpy One observation from both tables in this section is that XLF demonstrates two main features of a pool of individual stocks. First, it has lower annualized volatility and maximum drawdown than its individual holdings, which is a great illustration of the diversification effect. Second, it is significantly more correlated to the broader stock market than its individual holdings as the idiosyncratic risk becomes reduced in a portfolio. Conclusion Putting all pieces together, XLF tends to behave as a combination of long stocks and short bonds. The performance of the financial sector can be projected incorporating investor’s outlook for both of these markets. Furthermore, 37% of the fund is concentrated in 5 mega cap stocks, four of which are banks. Whilst these stocks individually are more volatile than the broad market, putting them together in one basket reduces volatility, beta and drawdown metrics. Unless an investor has a strong preference for a specific financial stock, XLF performance brings all the benefits that one may expect from a sector ETF.

Project $1M: Achieving $1M With Growth Stocks, Part 2

I’ve created Project $1M to try and attain a $1M capital base from growth stocks in 11 years. I’m focused on including stocks that have a moat and some strong growth drivers. I will introduce the next 6 stocks in the list in this update. I introduced the concept of my growth oriented model portfolio in a previous article. The focus of that portfolio was directed toward achieving a $1M capital base in approximately 11 years, starting from a base of $217,500. I introduced the first 6 stocks in the portfolio last week. I’d like to introduce the next 6 stocks in the portfolio in this update and show how the portfolio currently stands. LinkedIn (NYSE: LNKD ) – The reason that I’ve included LinkedIn in my portfolio is because I view LinkedIn as the flip side to Facebook (NASDAQ: FB ). LinkedIn is an indispensable tool for professional networking that enterprises and recruiters are increasingly eager to tap into. Similar to the case with social networks, the platform with the largest set of professional contacts is the one that more users will ultimately wish to join. Similarly, the platform with the greatest user base is the one that advertisers and marketers will gravitate toward. LinkedIn’s rise has been pretty stratospheric, and the company now has close to 350M users in less than a decade. LinkedIn has a variety of revenue generating opportunities open to it, including enterprise talent acquisition as well as advertising, which it has just started to play a role in. Business to business advertising is a $30B annual market. The market for recruiting tools is also estimated at over $35B. I believe LinkedIn has at least a decade of double digit revenue growth. NovoNordisk (NYSE: NVO ) has a lock on the insulin supplied diabetes market, with the firm estimated to control roughly 30% of the overall market. Novo has returns on capital in excess of 60% over the last few years and has increased revenues more than 3x over the last decade. The market for insulin dependent diabetes is close to $30B currently. This is only expected to increase as an increasing number of obesity cases triggers a greater percentage of insulin dependent diabetes. Market growth estimates for the next 5 years are for approximately 6% volume growth in insulin supplies, and as the market leader, NovoNordisk will likely see volume growth slightly higher than this. Novo should also be able to implement pricing increases to take annual revenue growth of close to 10% over the next 5 years, if not beyond. Core Labs (NYSE: CLB ) provides yield enhancement services to the oil and gas industry. Essentially, the company works with oil and gas companies to help them best optimize their oil fields to extract the maximum level of output. With oil and gas producers recently reducing capex levels and investment on fields offering marginal profitability, Core Labs has experienced some revenue pressure. However historical returns on capital have been quite exceptional and even now remain close to 40%. Core Labs helps its clients identify the best sites for new production, as well as maximize returns on existing assets. As such, it is fairly well positioned across all aspects of the production life cycle. Once the oil price recovers over the next few years, I expect Core Labs will once again resume its uptrend in revenue growth. Moody’s (NYSE: MCO ) is a strong part of the debt rating oligopoly along with S&P and Fitch, and has managed consistent, double digit EPS growth for the last 5 years. The debt ratings business has particularly strong barriers to entry, and natural incentives on the part of those in the ecosystem to keep the number of ratings players low. Too many different ratings providers allows companies to “ratings shop” in a bid to get the best rating from an issuer. This relative industry strength and the lack of any real price competition is reflected in Moody’s return on invested capital, which is in excess of 30%. While the last few years have been a bonanza for Moody’s as companies have issued significant debt to take advantage of low interest rates, I expect Moody’s will still see strong revenue growth over the medium term as low interest rates continue to persist, and industry structure remains favorable. Starbucks (NASDAQ: SBUX ) is synonymous with coffee, and increasingly teas and pastries. The stock has a long-term track record of delivering excellent returns for its investors. In fact, a $10,000 investment in SBUX made in 1992 would be worth $1.93M today. This reflects a return over time of just under 25.5% annually. One of the things that distinguish Starbucks compared to other retailers is the company’s willingness to experiment with new concepts. Starbucks recently announced a partnership with Dannon to provide a range of yoghurt based products into the store. The US market for yogurt is worth approximately $7B and has grown at an average rate of 8.5% annually, according to EuroMonitor, so Starbucks presence in the space stands to be a nice contributor to the company’s bottom line. Starbucks’ extensive store footprint and brand perception gives the company license to extend its in-store offering to other product categories, such as smoothies and teas, which the company is beginning to offer. Starbucks still manages double digit revenue growth, with an impressive return on equity that is over 30%. Resmed (NYSE: RMD ) is one of the key solution providers for the sleep apnea market. The company controls almost 40% of CPAP instruments. A large portion of the population with sleep apnea is still undiagnosed, so Resmed likely has years of growth ahead of it. The company has managed mid teens EPS growth for most of the last decade, with a return on invested capital in the high teens. A launch of in home solutions will likely further open up the market for apnea sufferers who have severe sleeping problems, but who haven’t been inclined to go to sleep labs to get the appropriate testing for diagnosis. The 12 names that existing in the Project $1M portfolio, and their respective weightings are shown below. Name Shares Held $ Market Value % Weight Baidu Inc ADR (NASDAQ: BIDU ) 54 10,123.38 6.4% Core Laboratories NV 64 7,445.12 4.7% Facebook Inc Class A 99 10,095.03 6.4% LinkedIn Corp Class A 42 10,116.54 6.4% MasterCard Inc Class A 305 30,191.95 19.1% Mercadolibre Inc 102 10,033.74 6.3% Moody’s Corporation 156 15,000.96 9.5% Novo Nordisk A/S ADR 235 12,497.30 7.9% Priceline Group Inc 7 10,179.68 6.4% ResMed Inc 174 10,024.14 6.3% Starbucks Corp 201 12,576.57 8.0% Visa Inc Class A 256 19,860.48 12.6% Project $1M 158,144.89 100