2023-08-01 11:14:41 ET
Summary
- This Tech dividend stock has become overvalued.
- I explain why taking gains is extremely important in any market.
- I offer 1 SWAN dividend replacement.
Written by Sam Kovacs.
Introduction
"It's a market of stocks, not a stock market."
"Nobody ever went broke by taking a profit."
"What goes up, must come down."
These three well-known phrases form the basis of why we believe that selling stocks is just as important as buying stocks if you want to be successful investing.
The first quote suggests that the stock market is not a uniform blob, but rather a vast field of opportunities, some attractively priced for purchase, some attractively priced for sale.
While overall stocks might move in the same direction, there are big discrepancies at the sector level, as well as at the equity level.
Let's just consider this year. At the sector level, while Tech has increased 43%, Utilities are down 5%.
At the stock level, FedEx ( FDX ) is up over 50% this year, while its closest competitor United Parcel Service ( UPS ), is up less than 10%.
(Full disclosure: I happen to own both, and we've enjoyed 70% gains since initiating a position in FDX in September last year suggesting it would be a "rollercoaster ride ahead.")
Divergent performance proves that there are always opportunities which are attractively priced for purchase, and those that are always attractively priced for sale.
Why does this mean that you should sell your high-quality stocks and replace them with others?
Because investment always depends on valuation.
And the two following phrases I opened the article with expand on this point. If you bought a stock at a cheap price, and it is now at an expensive price.
That gain stands to evaporate if the pendulum swings in the other direction, unless you lock in the gain.
If it is obvious that a stock is a buy when it is grossly undervalued, it follows that it is obvious that a stock is a sell when it is grossly overvalued.
To give an example, in April last year I said that it was a good idea to sell Essex Property ( ESS ) and replace it with The Home Depot ( HD ).
It was clear to us that ESS was approaching extremely high valuations, supported by our DFT chart below.
Of course, this was met with a lot of pushback in the comments.
Some people tend to confuse stocks with sport teams, and get emotionally attached to their investments.
I was told then:
"Be humble, you will always be wrong. You will never buy low enough or sell high enough."
"History shows trading stocks, rather than investing in them, is for fools."
"ESS is never a sell."
Yet, the simple transaction of buying HD and selling ESS, would have added 40% of performance on that cash over the time frame.
ESS is down 30%, HD is up 10%.
Not enough to convince you?
In January 2022 we told members to sell Pfizer ( PFE ).
Once again, it was quite clear to us that it was extremely overvalued on vaccine hype.
On that very same day we told investors to buy VICI Properties ( VICI ).
VICI is up over 12%, PFE is down 33%, meaning 45% in extra performance to the position.
This is without mentioning the fact that at the time VICI yielded 5% and PFE yielded 2.9%. The transaction also led to a 60% gross increase in annual income.
If that isn't a win-win, what is?
I already hear the "but what about taxes?" crowd marching in. Look, if you'd rather give up $1 in gains than pay $0.2 in taxes, I think you need to reconsider your priorities.
Sell ORCL Buy UPS
We first bought Oracle Corporation (ORCL) in April 2020 at $50 per share .
But it isn't until June 2021, after the dividend increased, that we sent a note to members suggesting that they initiate a position in Oracle. We initiated a position at $78, and subsequently added more shares in March 2022 at the same price.
Note that for the two latter trades, we didn't get in at the exact bottom on either time. In 2021, the shares were already on the way up, in 2022 they were still on the way down.
Getting the exact bottom or the exact top doesn't matter. Close enough is good enough.
With the swift swing of the pendulum in tech names, Oracle has performed very well in 2023.
AI hype in software has helped, and there is no denying that it could go a lot higher than its current 20x P/E.
How much higher?
Well if we look at its valuation relative to its dividend over the past 10 years, we'll note that ORCL has yielded between 1.04% and 2.4%. At its current price of $117, it now yields 1.36%.
If it behaves that way again this upcycle, it could go all the way up to $150.
Then why sell now, at $117?
That's a great question, and it should be understood that we approach selling very much in the same way we approach buying: in increments.
In June this year, when I alerted members that we were starting to scale out of ORCL, which was trading at $125 at the time, I said:
I think that ORCL could potentially go up all the way to $150, and as such we're planning to offload our position in 3 more increments from the current level:
- $130.
- $140.
- $150.
With its extremely low yield, and no dividend growth in sight before 2025, investors would be well served taking the gain and moving it into something else.
UPS is a top choice in the current environment.
In May this year, I already suggested UPS as a top pick in an article titled "2 Top Dividend Growth Stocks With Secular Tailwinds."
The other stock was Broadcom ( AVGO ). At the time, UPS traded at $173, and it now trades at $187.
And while 6.5% up in 3 months is nothing to be ashamed of, it clearly pales compared to our other picks' performance.
But as of this morning, one of the biggest roadblocks in the way of UPS shares has been cleared: Teamsters has voted to endorse the tentative agreement which had been reached on July 25th.
Sorry, mainstream media, but there will be no "America's biggest strike in history."
In a note in June, I highlighted to members that the hype about the potential strike was overdone:
Wage hikes will be debated back and forth, but the union already had a 6.1% increase in wages due to their inflation-linked pay wages.
I'd be surprised if a compromise isn't found between the company and the union.
Most union negotiations are agreed upon without a strike being necessary. Media loves to have a story, so they'll talk about "the biggest strike in US history".
While it is possible that a deal doesn't happen, workers don't really want to strike, because then they're only paid strike benefits which are less than what they make by working. The company certainly doesn't want a strike.
Striking a deal (pun intended) is in everyone's best interest.
Now that that is behind us, let's consider UPS a little closer.
I believe that UPS is a great investment today because it has a combination of short-term negatives and long-term positives.
Because of the market's focus on the short-term focus, this is keeping the share price down.
There are two short-term negatives right now.
The first is the consequences of the new Teamsters contract. While a strike would have been awful for UPS revenues, the labor deal comes at a cost, which might provide an estimated $1.5 drag to UPS' EPS according to Credit Suisse.
This isn't great, and the company will have to mitigate this as it can through efficiency gains and pricing increases.
The second negative is that consumers adjusted their spending patterns in 2023, moving away from goods and towards services.
This has resulted in reduced volumes for UPS, which saw revenue fall 0.9% in Q1 despite 4.9% pricing increases.
The labor deal is unfortunately the cost of doing business in an inflationary environment, costs go up, including labor.
The reduced volumes are transitory, and do not negate the long-term case for UPS, which has two amazing secular tailwinds, namely:
- Ecommerce penetration: The U.S. hovers at around 19% of all retail sales providing for Ecommerce. This has room to grow, as countries such as South Korea have 35% of all sales coming from ecommerce.
- International expansion: UPS has included more countries in its Digital Access Program, which enables small businesses to access bulk pricing from UPS. This has resulted in 51% increase in revenue for the program in Q1, and as small businesses continue to flourish globally, UPS can take a piece of that pie and continue to see strong growth outside the U.S.
There is no doubt that in an economy in which we send a lot of parcels, UPS has a large moat around of it.
Yet relative to its historical valuations, UPS is still quite cheap.
It currently trades at $187, and yields 3.45%. This is still significantly higher than the company's 10-year median yield of 2.95%.
While industrials have powered forward in 2023, UPS hasn't mainly because of the fear over the labor deal.
Markets hate uncertainty, and a significant amount of that uncertainty is now gone.
This opens the door for a reversal to $220, potentially challenging the all-time highs above $230, which could then lead to $250 target in the next year.
Conclusion
Selling part of an Oracle position to buy UPS could nearly triple your income, and would give you more upside while protecting your downside.
While there is always a lot of friction in investors parting ways with their stocks, in the case of dividend investors, if the goal is to do at least as well as the markets, maximize dividend income, and limit downside, it is always the sane, right thing to do.
For further details see:
Sell This Overhyped AI Dividend Stock And Buy This SWAN Instead