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Welcome to part four of Market Maneuvers—our special series to profit through market volatility.
Since my last Market Maneuvers feature, we’ve gotten some good news, and we’ve gotten some not-so-good news. The good news is that a bailout was approved by the Greek Parliament; the Shanghai Composite Index rebounded on Chinese government intervention; and, the U.S. signed a historic deal with Iran. While this may not be the last time we’ve heard of any of these crises, the immediate threat has abated. So, the market staged a “relief rally,” late last week, lasting through Monday.
The not-so-good news is that yesterday investors finally realized just how weak the Q2 earnings season will be. The Dow fell nearly 200 points after IBM Corp. (IBM), United Technologies Corp. (UTX), Verizon Communications (VZ) and other big names disappointed with their earnings reports.
According to FactSet, the S&P 500 is headed for a 3.7% year-on-year decline in earnings and a 4% drop in revenue. This represents the largest decline in earnings since Q3 2009—immediately after the Great Recession. How could this be, when the U.S. economy is clearly recovering? Well, increasing instability around the world has caused the U.S. dollar to surge in value against many other currencies. American multinational companies, which receive much of their sales in other foreign currencies, get less “bang for their buck” when they convert these proceeds back to dollars.
So, this earnings season is going to be brutal for multinational companies. The technology sector will be particularly hard hit. Excluding Apple Inc. (AAPL), the sector is expected to post a 6% year-on-year decline in earnings, according to FactSet.
Now is the time to make sure you’re smartly positioned in companies that are still growing sales and earnings in this challenging environment. Over the past few weeks, I’ve recommended a number of defense, financial and biotech stocks that are solid buys. Today, let’s cover two high-profile chipmakers that should be sold.
Two Big-Name Semiconductors to Avoid
Semiconductor stocks, on average, have been on a bit of a roller coaster ride this year. Just consider the SPDR S&P Semiconductor ETF (XSD)…its shares bounced 14% higher through mid-March, before giving up half of these gains over the next month. Then the ETF climbed to new highs by mid-June, only to slip 12% by mid-July. The ETF is now only up +1.8% year-to-date.
What’s interesting is that the semiconductor sector has been red-hot for merger and acquisition deals this year. With the cost of manufacturing semiconductors rising significantly over the past decade, many companies are looking to merge with their counterparts to carry the burden of rising costs and to become more cost-effective. And a couple big-name companies have been making headlines with their recent acquisition deals, including Avago Technologies (AVGO) and Intel (INTC).
M&A mania is likely to continue in the second half of the year, which may mean that the volatility in this industry is here to stay. Yet, given the industry’s projected growth in the next quarter (58.6%) and the sector’s forecast growth (204%), semiconductor stocks are a tantalizing bargain on the recent pullback. And while there are a select group of semiconductor stocks worth investing in right now, there are plenty of others waiting to set your money on fire.
In fact, Portfolio Grader currently has 131 companies classified as semiconductors and only eight companies are A-rated. Overall, these companies earn a C rating. And there are two well-known, large-cap stocks, in particular, that you should be wary of putting any money to work in right now…
Advanced Micro Devices
Based in sunny California, Advanced Micro Devices (AMD) develops and produces graphic cards and microprocessors that power computers, tablets, cloud servers, gaming consoles and much more. The company has a history of pushing the limits of chip design, and big-name personal computer manufacturers, like Apple, Samsung, Dell, HP, Microsoft, Toshiba and Lenovo, rely on AMD.
However, Advanced Micro Devices earnings and sales growth have slowed down drastically, and the company posted three earnings misses in the past four quarters. Most recently, AMD reported second-quarter results on July 16. Revenues dropped 35% year-over-year to $942 million, while its net loss widened to $131 million, or $0.17 per share. And the third quarter isn’t looking any better, as analysts are projecting sales to slide 30% and an earnings per share loss of $0.11.
So it’s not surprising that AMD receives an F-rating, “strong sell,” from Portfolio Grader. The company receives straight Fs for sales growth, operating margin growth, earnings surprises, analyst earnings revisions, and cash flow. And it receives C ratings for earnings growth, earnings momentum and return on equity. Overall, AMD is an F-rated Strong Sell.
Applied Materials, Inc. (AMAT) is another American company; it is a materials engineering company focused on developing solutions for semiconductor, solar photovoltaic and flat panel display industries. Its silicon system technologies are used to produce microchips around the globe, and its thin flat panel displays have driven down TV costs over the past decade.
In the second quarter, Applied Materials reported that orders and total sales slipped 4% year-over-year. Earnings were $362 million, or $0.29 per share, which just beat estimates for $0.28 per share. For the third quarter, to be reported on August 13, the analyst community is looking for earnings of $0.33 per share on $2.54 billion in sales, which translates to 17.8% annual earnings growth and 12% annual sales growth. But estimates have been revised lower in the past three months.
Plus, according to Portfolio Grader, Applied Materials receives an F Quantitative Grade. It receives C ratings for sales growth, earnings momentum, earnings surprises and analysts earnings revisions. It has a B rating for earnings growth, cash flow and return on equity. And it earns an A for operating margin growth. Overall, it is a D-rated Sell.
I’ll be in touch next Tuesday with your next Market Maneuvers, so make sure that you’re signed up to my mailing list before then. We’ll be covering the latest headlines and the best opportunities in data security and software.