Washington may be mired in turmoil amid an ongoing shutdown — but Wall Street has been having a phenomenal earnings season.
So far, we’ve seen a whopping 83% of all S&P 500 companies beat their earnings estimates. If that pace keeps up, we’ll see the fourth straight quarter of double-digit average earnings growth across the index.
This is all great news for the stock market at large. But what does it mean for your portfolio?
And which stocks are best-positioned to charge further into bullish territory as we close out the year?
For the answers to these questions and more, check out my interview with Chief Analyst Matt Clark below. Just click the video to get started:
Video transcript:
Andrew Zatlin:
And welcome to Moneyball Economics. Today we have a special guest. I’m Andrew Zalin, and I am welcoming you. Matt Clark. Thank you for joining the call.
Matt Clark:
Thanks for having me. Appreciate it.
Andrew Zatlin:
Matt. Everybody should know is a genius. He is able to do stock picking and analysis like you would not believe. And Moneyball, we don’t typically talk specific stocks, but today I thought it would be interesting to jump in and kind of take a look at where we are as earning season is about halfway through how things are going because it is a good intro into where the economy is going as well. It’s an immediate reflection, companies participating in the economy and it’s being reflected in their earnings and revenues. So Matt, what do you see going on right now
Matt Clark:
From an earnings perspective? Things have gone well thus far. For the S&P 500 specifically, I was just looking today, we tend to focus on pricing metrics, things like price to earnings, price to sales, price to book value, price to cashflow, things like that to determine the value of a company. And we can do this with an index as well. And it was interesting to see that the forward 12 month price to earnings ratio for the S&P 500 stands at about 23.1. Now, that’s not a bad number. It’s
Andrew Zatlin:
High though, isn’t it?
Matt Clark:
It is high, and in fact it is well above the five year, the 10 year, the 15 year, the 20 year, and the 25 year average for the benchmark, just to put it in perspective, 23.1 is the current forward 12 month PE ratio, the 25 year average for the S&P 500 is 16. So we are seeing some frothiness in the s and p. If you look at the sector level, 10 of the 11 sectors have a forward 12 month PE ratio that is actually higher than their 25 year average information tech leads the way there. Consumer discretionary industrials, communication services. So what we’re seeing is, like I said, a lot of frothiness and the main driver behind the higher PE ratio and the benchmark is the P, which is the price between April 8th, which was kind of liberation day to the end of October. The price of the S&P 500 jumped about 38.5%, whereas four 12 month EPS estimates only increased by 7%. So you can see what driving that big jump forward and forward PE ratios for the benchmark is the price. The SP 500 has advanced rather quickly and there is some indication that it is getting a little frothy.
Andrew Zatlin:
Yeah, I mean I know some people would come out building this wall of worry, they’d said, yeah, yeah, yeah. But earnings are off the chart. Here we are. Six weeks into the quarter almost. No, literally every company, I think I saw something like 85% of all companies reported earnings upside surprises and revenue surprises. And they might say, okay, great, but let’s factor in new earnings data. Other people might say, yeah, but what if we strip out the AI excitement, which is clearly adding to it? I would tell them that, yeah, you can cherry pick all day you want and you can adjust, well, maybe 24 is the wrong number. Maybe it’s only 2221. It’s still frothy. And more critically, a lot of funds out there and funds are the primary investors in the stock market. They may not be choosing names as much as they’re choosing the market S&P 500. So if the S&P 500 kind of corrects to the downside, they could be a little bit more oversold than we would want. In fact, I think I’m looking at some semiconductor stocks today getting hit no matter how well they’re doing a little frothiness. But looking forward, it seems that speaking of the wall of worry, there are a couple factors that are out there that might be their headwinds today, but they might shift, and I’m thinking top of mind, the shutdown and the tariffs. Any thoughts there?
Matt Clark:
As far as the shutdown is concerned? I mean, wall Street is just kind of playing this a little close to the vest. It’s not a huge market driver right now. Obviously we’re entering a shutdown that is something we haven’t seen before in terms of length of time. But in terms of its market impact, it’s had very little. I think where you see more market impact of those two subjects you brought up, and that would be tariffs. Tariffs have hit companies, producers particularly hard, especially retaliatory tariffs. However, I think one thing that we have to also pay attention to is some of these deals that are being made by the Trump administration with other countries and how those are impacting companies here in the us. I’ll give you an example, Archer Daniels Midland, which is a DM, that’s the ticker. It produces oil, seed, corn, wheat, cocoa, other aggregate soybeans, specifically other agricultural products.
Matt Clark:
Well, if you rewind a little bit to last month, the US made a deal with Javier’s government in Argentina to provide a little bit of buoyancy to its central bank, but something kind of underneath all that really wasn’t mentioned is they also kind of lifted the restriction to allow Argentina to sell its soybeans to China. The problem with that is, is that now China can buy soybeans probably a little cheaper from Argentina. It takes a little longer to get there, but they can buy them cheaper from Argentina than they can from the us And companies like Archer Daniels Midland suffer for that because they primarily not only sell here in the US but they primarily export abroad. So when that export market gets cut, a US company like a DM kind of takes a hit.
Andrew Zatlin:
So let’s fast forward a little bit. A DM did take a hit. They were trading up around 55, say 60 bucks almost, and they’ve been kind of rising for a while now. And then they took a big hit recently, 10%, 15, some ungodly hit. What do you think about them? So are they a buy, let’s say the tariffs go away, would you buy into them?
Matt Clark:
No. And the reason why is that even with the dip that we’ve seen right now, they are about 15.5% off their 52 week high. Fundamentally, I still have a little bit of issue. I’m looking at some of the ratios right now. PE ratios a little higher than the industry average. They’re pretty much in line with their short-term growth for pe, price to sales, a little lower price to book is right in line. The returns are okay, they’re not great. Margins aren’t great either. But then again, in this industry, margins typically aren’t that good anyway because they’re very price dependent. Debt is a concern here. We’ve got about 9.2 billion in debt for a DM. So no, I think if tariffs go away, I don’t think we’re to buy yet. But understand that in terms of what I look at, I’m looking for stocks that are already in an uptrend and Archer Daniels Midland is clearly not there yet. So until I see a turnaround, I don’t think, don’t think a DM is a company to add to your portfolio just yet.
Andrew Zatlin:
So we look at them, this is not an oversold story, it’s more they were overbought and now it’s just more of a reconvergence. I want to share with you this chart, take a look at it because this is a different window, a different filter to leverage. I’m tracking their hiring. I’m actually tracking their hiring. Looking back a couple of years, this is say three years old. And what’s interesting to me is about three years ago, starting about three years ago, a DM slowed their hiring. And in fact recently if you look at these two lines, what you’re seeing is the hiring line in blue and the stock price in the other color. And what you should note is typically speaking, it looks like price can get overbought, oversold, but it always reconvenes with this hiring line. And right now it’s telling me from just a pure hiring demand level, they’re not seeing the revenues to justify their price. In fact, even at this level, they’re probably in line. Would they come down a little bit? Maybe yes, maybe no. But certainly their hiring is consistent with what you’re seeing, which is there’s no reason to buy. They’re not tilting up in any way, shape or form. We talked about tariffs and that’s kind of a wild card. We talked about the shutdown briefly. That’s another one that might be holding back. Can we talk about a trend that’s more of a tailwind? And I’m thinking, what do you think defense industry as a major?
Matt Clark:
Oh, absolutely. You’re seeing not only increases in defense spending in Europe to meet a 2% threshold even higher, but you’re also seeing increased defense spending here in the US with a lot of priorities being given to drone technology, missile technology and things of that nature. So I think over the next several years we’re going to continue to see an uptick in defense spending. And I think what that does is it certainly does continue to provide that tailwind for some not all defense companies. I think you have to look at the defense sector with a very sharp eye, and it really just depends on what these companies provide. For example, I’ll give you one with Northrop Grumman, NOC is the ticker. This is a company that has really dove in feet first into drone technology and not just the building of drones, but also drone detection, missile technology and things of that nature.
Matt Clark:
And I think this is a company that as we move more to this unmanned warfare type mentality, not just here but also abroad, I think companies like Northrop Grumman had the potential to really gain market share on traditional players like your Boeings, which does focus very heavily on manned aircraft, manned manned vehicles. So we are seeing a dynamic shift in the defense industry, and I think this is being led by unfortunately Ukraine. We’re seeing Russia and Ukraine both utilize drones very effectively and it has significantly reduced loss of life and the rest of the world is taking notice. And like I said, Northrop Grumman is a company that has really taken this trend and really grabbed the bull by the horns and it’s reflective right now the company is a little off, about 12% off. Its 52 week hike. I think it has some room to run. I don’t think we’ve hit any type of support and we’re definitely not at a resistance point yet. So I still think there’s some fluctuation. Metrics wise, this company looks very good trading 15 points under the industry average PE ratio, 11 points under the next 12 months. PE ratio price to sales are half the industry average.
Andrew Zatlin:
We’re talking steal technology. And this is a stealth stock, right?
Matt Clark:
Very much. And it returns are very strong, all positive, whereas its industry averages are in the negative gross margins kind of right on par. But it’s net and operating margins are all very, very good, especially when you compare them to their peers. So if you look just on the fundamental basis of this company, it’s in very, very good shape. And I think if you see a persistence in defense spending that leans heavier towards the UAVs, the unmanned war fighter if you will, then I think there’s only strength to be had for Northrop Grumman.
Andrew Zatlin:
So resetting that big picture, the way I look at this compared to AI is AI is more field of dreams, build it and people will come. So there’s some froth there and we’re seeing that in the P two E levels that you mentioned and so on. But when we talk about the defense industry, it’s one-to-one literally demand out there. We’re insisting that our allies and partners spend money, they’ve made those commitments. So we can see demand is going up. And now it’s a question of who’s in the best position to pick up a lot of that incremental demand. You’re thinking Northrop Grumman, I’m looking at them and I’m thinking, you’re right, this is a tight company, they’re running really well. And if there’s a lot of demand that’s good for margins, it’s definitely a situation that I like. I’d like to share with you then what the hiring data is telling me.
Andrew Zatlin:
When I look at Northrop Grumman, what I’m seeing is they’ve been stepping on the gas when it comes to hiring. And I’m not a guru with the defense industry, but I suspect that in this particular sector you’ve got to hire in advance a little bit because you’ve got security clearances, you’ve got a lot of special skills. It’s not just like McDonald’s. You put the help wanted sign up and people come in. There’s probably a little bit of a lead, but that also suggests that they see contracts coming in, Pentagon contracts, Japan contracts, whatever the contracts are. It sounds like great sector to be in, not overbought clear growth. It doesn’t look priced in for Northrop Grumman and yet Northrop Grumman’s already operationally expanding. So they’re anticipating some growth. I think that’s interesting to me. I think the hiring data definitely matches what you’re looking at. These are two interesting companies. So we’ve got a DM may not benefit from the tariff shakeout whatsoever. In fact, it looks like they’ve been struggling for a while, not a company on your radar either to short or to go long. It’s just sort of a wait and see, let the smoke clear. But when we look at Northrop Grumman, things are starting to emerge that make them a lot more exciting.
Matt Clark:
And to kind of go back a little bit to what you said in terms of the differences between ai, the AI trend and the defense trend, the defense sector is only limited by your pocketbook, only limited by how much countries are willing to spend for your technology. They want the technology, how much are they willing to spend for it? And those contracts are negotiated. AI on the other hand is a little more hampered by technology. You still have very much pie in the sky ideas in terms of SMRs, small nuclear reactors to help power these data centers that are going to require massive amounts of energy in order to process these large language models, things like that. So there’s still a lot of things left to be developed in order for us to fully realize this AI dream. And we’re just very much at the very beginning stages of it. And it’s going to take a lot longer than I think people realize. This is not going to be a situation.
Andrew Zatlin:
I think like a trillion dollars wouldn’t fix though, right?
Matt Clark:
For sure. And an upgraded power grid, because right now the US power grid simply can’t handle the requirements. Even looking out 10 years from now, it can’t handle the requirements that are needed for these data centers. Defense on the other hand, doesn’t have that problem. As you mentioned, there is demand for defense products, specifically UAVs, drones, missile systems, guidance systems, things like that that you could even drill deeper and find pick and shovel companies that provide some of these components to these larger defense contractors. And that demand’s not going to go away because
Andrew Zatlin:
Supply is growing
Matt Clark:
And more and more countries want it. We’re seeing more and more ordinance being expended, especially in places like Ukraine and Western Russia amongst other places abroad that maybe don’t necessarily make headlines as much as Ukraine does. So there’s going to have to be that constant resupply. And this is another thing that really helps defense contractors out is not just what orders do they have that are new, but what’s their backlog look like? And this is why I think you see some of this hiring tick up because they realize we have a backlog. We need to get these things out, get delivered, and more importantly get paid because they’re usually only paid upon delivery. And that only happens when you have the manpower in place to fulfill what that backlog is. And the more orders we see, the more that backlog continues and it becomes kind of a rolling effect for defense contractors like Northrop Grumman who do have a pretty sizable backlog. They’re still developing things and they still need people in place to make these things come to fruition and get them out the door and get them sold to get their money. So I think ai, it’s a great trend to get excited about, but we’re not there yet.
Andrew Zatlin:
Yeah, I mean AI feels to me like there will be some huge winners. I mean, we will see the next for sure. And so you just sort of spread your bets. You don’t know which one, right, for sure. But when we look at defense industry is here forever, it’s not going away. The American domination of that market’s huge. That’s not changing. And it’s just a matter of picking the right player. And it sounds like with Northrop Grumman, we’ve got a great player here,
Matt Clark:
Everything
Andrew Zatlin:
Checks those boxes.
Matt Clark:
And it also helps that you have an administration in place now that is very friendly to approving overseas sales of defense materials. I mean, ultimately these defense companies can’t just go out and sell to countries. They have to receive congressional or White House approval. And you have an administration in place now that is very friendly to being able to do that.
Andrew Zatlin:
Well, you’ve seen my list of companies that have emerged from my hiring analysis where I’ve said it’s what, 200, I dunno, I forget how many, but 300, where there is that clear correlation between the stock price and what’s going on with their hiring. Shared a little bit today, knock was on it. I wish I had moved on, knock a lot sooner. I might go out and take advantage of this. It sounds like there’s a sweet spot where they are not oversold, it’s not been priced in. They’re opportunities and they’re starting to show this growth potential hitting their books. So maybe over the next couple of quarters we’re going to see a surprise and we know when we see surprises, that can be a five, 10% upward move in earning season
Matt Clark:
For sure. And the recent pullback we’ve seen from Northrop Grumman office 52 week High might provide a little bit better buying opportunity because coupled with that, as I said before with a DM, I like to see companies that are already kind of in a confirmed uptrend. And I’m starting to see that with Northrop Grumman coming, bouncing off of that, they came off their 52 week high hit about five, a little under 5 75, and now they’re
Andrew Zatlin:
Starting testing the resistance there and then,
Matt Clark:
Right? And now we’re starting to trend back up a little bit. We see a few more sessions where this upward trend continues. And then I think we have a really good buying opportunity.
Andrew Zatlin:
Get some end of the year contracts in, everyone gets excited again. Well, thank you so much for sharing a lot of your deep, deep knowledge and analysis with us today, and thank you everyone. And let us know if you want to get some more of this hiring type of analysis as well. The way we apply looking at jobs, looking at the hiring at companies as an indicator of, like you said, are they in an uptrend and is that being reflected in the way they’re operating companies don’t hire just because. So with that in mind, thanks again and we’ll catch up with everyone next week.
We’re in it to win it folks.
Zatlin out.
Andrew Zatlin
Editor, Moneyball Economics