“Coronavirus exhaustion” may not be a real term – but I do believe it’s a real thing. Over the last few months, it seems that there is real fatigue about hearing more news about COVID-19, vaccine trials, or the importance of hand washing and mask wearing. That comes in the face of increasing infection rates in a lot of areas of the country, including a rise in infections among teens and young adults. Over the last couple of weeks, though, even that fatigue hasn’t been able to keep investors from passing over the reality of increased risk in the market – Congress still hasn’t come to any kind of compromise regarding new stimulus that most economists, and even the Fed agree is necessary to keep the most severely areas of the economy – including small businesses, extending increased unemployment benefits, to name just a couple of cases. Trade winds between China and the U.S. are starting to blow harder than they have in nearly a year, and the upcoming presidential election, with all the finger-pointing and vitriol that comes in the rhetoric the major political parties are throwing at each other, only adds to uncertainty. I think those are just a few of the factors that have come to play and pushed the major market index down into correction territory in the last few weeks.
There are certainly some analysts that are calling this correction the beginning of a new drop into bear market territory, and I think there are plenty of reasons that could happen; while some would argue this will ultimately just be another opportunity to “buy the dip,” the contrarian in me really starts to twitch when markets start to blithely shrug off news or information that runs directly counter to popular sentiment. The more I watch the market right now, the more I start to think that things feel a lot like the late 1990’s, when the “dot-com boom” went bust, or the 2007-2008 period when the financial crisis spurred the beginning of what historians now like to call The Great Recession. In both cases, the “irrational exuberance” exhibited by investors at large left a lot of people hanging in the wrong kinds of investments at exactly the wrong time. We could be at the tipping point where being too bullish right now puts you in exactly that unfavorable position.
At the same time, accommodative monetary policy makes it hard right now to justify completely repositioning portfolios out of the stock market. With short-term interest rates just above zero, the 10-year Treasury bond below 1%, and no expectation that the bond buying program the Fed has been following since the beginning of the pandemic to keep liquidity strong in the financial system is going to end in the foreseeable future, the only place right now to really put your money to work for you in a constructive way is in the stock market.
If you need to keep your money working for you, but you’re also looking for a way to minimize broader market risk, it might make sense to think about the sectors and industries that are likely to remain stable, or possibly continue to grow, even if economic conditions remain stressed or turn even worse. An example of what I mean is the healthcare industry, and the businesses that support it. Demand for basic supplies to keep hospitals running is going to remain high as infections and hospitalizations remain high, and that means that many of the businesses that produce and deliver those supplies are going to stay busy.
If you’ve spent time at a hospital, you probably haven’t taken time to take major notice the boxes of surgical gloves, protective masks, bottles of hand sanitizer and more. This is actually something has marked a stress point in the medical system since the beginning of pandemic in the United States; as the number of infections increases, the number of people needing to be hospitalized will naturally also increase. Consider also that while COVID-19 is dominating the discussion right now, it is not the only malady that the health care system is forced to deal with on a daily basis. Many elective procedures are being delayed or even cancelled by hospitals and medical professionals to provide capacity for treatment of COVID patients; but there are other ailments and treatments that simply cannot be ignored. That means that there is still a normal level of daily activity that hospitals and clinics have to deal with. Coronavirus is just another element that not only adds complexity to healthcare capacity, but also puts pressure on the businesses that produce them to meet the increasing demand.
One of those companies is 3M (MMM). 3M is a conglomerate that works in a number of segments of the economy. One of those is Health Care. The market’s shift to stocks that supply the health care industry has put their operations in greater focus over the last few months, and has helped the stock rebound from its own bear market low in March around $114 to an intermediate-term high in June at nearly $170. The stock dropped lower from that point into the last week of June, but has since settled into a relatively narrow trading range, with the latest wave of bearish market sentiment driving the stock down by about -7%. While a number of its operations have been challenged in industrial and consumer end market segments, COVID-19 has provided tailwinds to other aspects that have helped offset those declines and keep its balance sheet healthy. For example, the company has been working to quadruple its production of N95 respirators during the crisis, which has helped the health care segment contribute 25% of the company’s revenue in the second quarter of the year (in 2007, health care was 16% of its business). In addition, demand for related protective equipment made by the Safety segment (masks) have provided a useful, secondary offset. Does the stability of those segments provide enough of a basis to make the stock a good value? Maybe, and maybe not; but if you’re looking for a place to park your money that could provide a measure of safety against broader market risk, MMM might be a smart stock to watch right now.
Fundamental and Value Profile
3M Company is a technology company. It operates through five segments. The Industrial segment serves a range of markets, such as automotive original equipment manufacturer and automotive aftermarket, appliance, paper and printing, packaging, food and beverage and construction. The Safety and Graphics segment serves a range of markets for the safety, security and productivity of people, facilities and systems. The Health Care segment serves markets that include medical clinics and hospitals, pharmaceuticals, health information systems and food manufacturing and testing. The Consumer segment serves markets that include consumer retail, office business to business, home improvement, drug and pharmacy retail, and other markets. MMM has a current market cap of $92.4 billion.
Earnings and Sales Growth: Over the last twelve months, earnings declined -19% while sales slid backward by -12%. In the last quarter, with earnings dropped -17.5% while sales were -11% lower. Despite the negative earnings and sales pattern, the company operates with an impressive margin profile, with Net Income running at 16.37% of Revenues over the last twelve months and improving in the last quarter to nearly 18%.
Free Cash Flow: MMM has healthy free cash flow of $6.06 billion over the last twelve months (an improvement from $5.7 billion in the quarter prior). This number equates to a Free Cash Flow Yield of a little over 6.51%.
Debt to Equity: MMM has a debt/equity ratio of 1.77, which is high and implies the company is highly leveraged. As of the last quarter, the company had $4.46 billion in cash and liquid assets (an increase from $2.5 billion from earlier this year), versus $19.2 billion in long-term debt. Their healthy operating margins, along with their solid cash position suggests, however that servicing their debt is not a concern, and despite their high leverage, the company maintains a healthy level of liquidity.
Dividend: over the last year, MMM has paid an annual dividend of $5.88 per share, which at its current price translates to a yield of about 3.67%. MMM has a long history of maintaining, and growing its dividend, which is useful and constructive right now since bond yields aren’t likely to rise above 1% anytime soon, and many other companies are cutting or eliminating their dividends altogether to preserve cash.
Price/Book Ratio: there are a lot of ways to measure how much a stock should be worth; but I like to work with a combination of Price/Book and Price/Cash Flow analysis. Together, these measurements provide a long-term, fair value target around $190 per share. In the last quarter, my valuation metrics provided a target price at around $179 per share, so the boost in target price is something that I take to be pretty significant. That means that despite the stock’s increase since March, MMM remains nicely undervalued, with about 19% upside from its current price.
Technical Profile
Here’s a look at the stock’s latest technical chart.
Current Price Action/Trends and Pivots: The chart above displays the stock’s price activity over the last two years. The red diagonal line traces the stock’s downward trend from an April 2019 peak at around $220 to a mid-March low at $114; it also provides the baseline for the Fibonacci retracement lines shown on the right side of the chart. In early June, the stock pushed above the 50% retracement line and appeared to be building strong bullish momentum to keep driving above its January peak at around $180, but instead reversed back to the 38.2% retracement line to find support at around $151. The stock hovered in a narrow range until early August before driving above the 50% retracement line again in the latter part of the month; since then, the stock has dropped back and is currently just a little above the 38.2% line at around $155, which should act as current support. Resistance is around $167, inline with the 50% line. A drop below $155 could give the stock room to fall to about $146.55 before finding new support, based on previous pivot activity in that range. While current resistance is around $167, the stock would realistically need to push above $171 before offering a clear indication of a bullish trend continuation; but in that case, the stock should rally to at least $179, around its pre-pandemic high before finding new resistance.
Near-term Keys: Given the MMM’s fundamental strength and favorable defensive positioning, it’s not hard to see the stock as a good long-term opportunity with a nice value proposition, along with a useful dividend yield providing a passive income source. If you prefer to work with short-term investments, you could use a pivot and bounce off of support anywhere between the stock’s current price and $155 as a signal to consider buying the stock or working with call options with a profit target around $167. A drop below $155 would be a good reason to think about shorting the stock or working with put options, using $146 as a near-term bearish target, and $142 if bearish momentum really starts to accelerate.