It really seems like the market is going to take any queues for the foreseeable future from the U.S.-China trade front. With both sides seemingly digging in on hard-line positions that they don’t want to be moved off of, it looks like uncertainty is going to continue to rule the markets as we move into the summer months. If you’re looking for ways to keep your money working for you, that generally means that a smart move might be to keep looking for good stocks in defensive-oriented sectors and industries.
One of the first pockets of the market I tend to turn to in these kinds of conditions, and that I’ve written about before, is Consumer Staples, including Food stocks. Even more to the point, when I’m looking for a way to be a little more conservative, but functional at the same time, I tend to look for value-oriented opportunities in the largest, most established companies in an industry or sector that I can find. When you’re talking about challenging economic conditions, I think that consumers tend to gravitate more to products and brands they are familiar with, that can offer a good combination of quality and value for every dollar spent. That usually means that those bigger names fare better than their smaller competitors.
Archer Daniels Midland (ADM) is a stock that most people should be familiar with; it is one of the largest agribusiness companies in the world, with a major market presence in agricultural processing and merchandising. Another reason I like to think of stocks like ADM as defensive in nature is the fact that when the market turns bearish, and investors are putting quality at a premium, large-cap stocks in defensive industries tend to get the most attention. The fundamentals for these companies tend to be the strongest, and usually offer dividend yields that help them compete favorably with bonds and other interest-bearing instruments. ADM’s fundamental profile has a couple of holes that should prompt a cautious view of the stock. It has also underperformed the rest of the market this year, as well as the Food industry, since it is down about -6% year-to-date and more than -13% since the beginning of May.
The stock’s price performance is interesting, because based on my favorite valuation metrics, ADM is starting to look pretty attractive; but when you dive into some of the psychology of the price performance this year, you might have reason to reconsider. More than a lot of U.S. Food stocks, ADM has a lot of exposure to China, where both corn and soybean prices have been negatively impacted by trade tensions, due to the tariffs imposed on U.S. exports to China. The U.S. is the largest producer of corn and soybeans, while China is the largest global consumer of soybeans and one of the largest global consumers of corn. U.S. tariffs have led Chinese importers to purchase grains from other markets, such as Brazil and Argentina. The result is that stockpiles of inventory have been elevating in the U.S., which naturally puts pressure on grain prices. According to the latest Grain Stocks report from the USDA, stored soybean levels are up 29% compared to a year ago. Corn stocks stored at farms are also up 3% compared to a year ago. Indications also point to the real possibility that stock levels could decrease in the coming months due to damage caused by severe flooding in the Midwest.
These are cautionary factors suggesting that while Food stocks could be a good place to look for defensive opportunities, you want to be aware of the risks posed by some of the largest, multinational players in the industry. Here are the rest of the numbers for ADM to round out the picture further.
Fundamental and Value Profile
Archer-Daniels-Midland Company is a processor of oilseeds, corn, wheat, cocoa and other agricultural commodities. The Company manufactures protein meal, vegetable oil, corn sweeteners, flour, biodiesel, ethanol, and other food and feed ingredients. Its segments include Agricultural Services, which utilizes its United States grain elevator, global transportation network and port operations to buy, store, clean and transport agricultural commodities, such as oilseeds, wheat, milo, oats, rice and barley, and resells these commodities primarily as food and feed ingredients and as raw materials for the agricultural processing industry; Corn Processing, which is engaged in corn wet milling and dry milling activities; Oilseeds Processing, which includes global activities related to the origination, merchandising, crushing and further processing of oilseeds; Wild Flavors and Specialty Ingredients products, which include flavors, sweeteners and health ingredients; Other, and Corporate. ADM’s current market cap is about $21 billion.
Earnings and Sales Growth: Over the last twelve months, earnings decreased more than -32%, while sales declined about -1.4%. The last quarter added steeper declines, as earnings decreased almost -48%, while sales dropped -4%. The company operates with a very narrow margin profile; Net Income versus Revenues over both the past year was about 2.5%, and narrowed in the last quarter to 1.52%. That narrow margin isn’t unusual for food companies, but the narrowing of ADM’s profile is a reflection of the negative earnings picture that I think confirms some of the geopolitical concerns that are impacting the company right now.
Free Cash Flow: ADM’s free cash flow is negative, by about -$4 billion, and that is a red flag; it is an indication that the company’s financial flexibility is becoming more restrictive.
Debt to Equity: ADM has a debt/equity ratio of .41. This is a conservative number, but in this case doesn’t improve the fundamental profile. The company’s balance sheet indicates that operating profits are adequate to service their debt, and they do currently have about $5 billion in cash and liquid assets; but with more than $7.6 billion in long-term debt (an increase of about $1.5 billion in just the last couple of quarters), and negative Free Cash Flow, liquidity is a question mark.
Dividend: ADM pays an annual dividend of $1.34 per share, which translates to an attractive yield of 3.47%.
Price/Book Ratio: there are a lot of ways to measure how much a stock should be worth; but one of the simplest methods that I like uses the stock’s Book Value, which for ADM is $33.76, and which translates to a Price/Book ratio of 1.14 at the stock’s current price. Their historical average Price/Book ratio is 1.36, which puts a long-term target price at about $46 per share. The stock’s Price/Cash Flow ratio is more interesting, since that is currently trading almost 49% below its historical average and provides a target at around $57 per share.
Technical Profile
Here’s a look at the stock’s latest technical chart.
Current Price Action/Trends and Pivots: The diagonal red line traces the stock’s downward trend from October fo last year to right now; it also informs the Fibonacci retracement lines shown on the right side of the chart. The stock’s downward trend since October runs counter to the trend of the broader sector over the same time period. In the last couple of days, the stock broke below its 52-week low a little above $39 per share, with serious bearish momentum working against the stock as trade fears seem to be pushing investors into sell-off mode. The stock’s next most likely support level is somewhere between $36 and $37 based on price action dating back to 2016.
Near-term Keys: It’s hard to see where any kind of bullish short-term trade would be a good idea right now, given the strength and momentum of the stock’s current bearish trend. The stock would need to find a consolidation level and ultimately rally above $41 before any kind of sustainable bullish momentum is likely to be seen. There may be an opportunity right now to short the stock or work with put options, but if you do choose to work that side of the market, it would behoove you to be quick to take profits since support is just a couple of dollars away from the stock’s current trading price. While the valuation metrics for the stock look good, the strength of the bearish trend and the current state of that trend’s momentum make me leery about trying to think about using the stock for a long-term value play. I would prefer to wait to see the stock stabilize, and to see some of the company’s core fundamental metrics – Free Cash Flow and Net Income, in particular – show signs of meaningful, sustainable improvement first.