A recent Globe and Mail story highlighted one of the market’s occasional paradoxes: investors are using exchange-traded funds (or “ETFs”) to short the consumer staples sector, but aren’t shorting the individual consumer goods stocks within the ETFs.
Market paradoxes don’t always stem from clear-headed behaviour, but there may be some logic in this case. Investors appear to be bearish on consumer goods related to the kitchen (such as breakfast cereal) rather than the bathroom (toothpaste, etc.).
The Procter & Gamble Co. (NYSE─PG) fits the more bullish side of this equation. It makes consumer goods via five operating divisions: Beauty (including cosmetics and skin care), Grooming (razors, hair care appliances), Health Care (feminine products, oral and other personal care items), Fabric Care and Home Care (laundry detergent, batteries, pet care) and Baby and Family Care (diapers, tissues, toilet paper).
These are items consumers use frequently and, unlike cereal, few of them are falling out of favour. Yet this consumer goods stock has stumbled over the past year or so and is significantly underperforming the benchmark S&P 500 composite index.
New York-based Deutsche Bank analyst Bill Schmitz acknowledges that Procter & Gamble faces some challenges, including “brutal currency headwinds” and “tepid” U.S. consumption trends, as the economy revives more slowly than anticipated. He also sees near-term results being negatively impacted by restructuring, including the sale of underperforming assets, and more promotional spending.
Yet, he notes, it is some of these same factors – along with others – that suggest better days are ahead. “Restructuring and productivity savings,” he says, “provide earnings and reinvestment flexibility.”
As well, Mr. Schmitz is seeing “signs of growth…emerge in some categories,” even as the stock has underperformed.
So, while short-term catalysts remain elusive and near-term earnings only promise “more of the same,” the analyst sees “latent sales and earnings growth potential” that should surface over the longer term.
One factor Mr. Schmitz highlights is a significant shift in strategy for developing new products. Procter & Gamble is scrapping its old “shotgun” approach of trying to hit every target at once, no matter how low the returns.
Instead, it’s turning to a more focused, or “rifle-like,” approach that seeks more targeted markets offering better returns.
As part of this change, Procter & Gamble is discontinuing, or selling, some product lines and brands that don’t fit the new, more focused, and higher-margin strategy.
Mr. Schmitz maintains both his “buy” recommendation and 12-month target price of $96 for P&G on his top consumer goods stock list.
Investor’s Digest of Canada, MPL Communications Inc.
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