The value investor Charles Lemonides, chief investment officer at money-management firm ValueWorks, sees the stock market struggling for the next three to six months.
That’s as the Federal Reserve maintains its tight monetary policy in that period. But then it will stop draining liquidity from the financial system, setting the stage for an equities rally in the second half of the year, Lemonides said.
Value stocks should lead the market higher, as investors seek companies with tangible assets and cash flow, he said. Lemonides particularly likes the energy and financial sectors. Both have attractive valuations, he said.
Street.com: What is your investment philosophy?
Lemonides: We’re bottom-up, fundamental, value investors. We’re not necessarily concerned about price-earnings or price-sales ratios. We’re trying to get $1 worth of assets for 50 cents. It’s the best quality companies where opportunities are available. We don’t mind paying higher multiples for higher-quality companies. We like true growth stocks trading at value prices.
Street.com: What’s your outlook for the stock market as a whole this year?
Lemonides: It’s a tough road for investors. The Fed is taking dollars out of the system, draining liquidity. Less dollars available to investors means prices go down. Those conditions will stay in place for the next couple quarters. So the market could go lower for the next three to six months.
Afterward, a new business cycle will start. Once the Fed has done its job, conditions could be positive for investors. By year-end stocks could trade quite a bit higher than today. We will have the groundwork for a multiyear advance
Street.com: What’s your outlook for value stocks versus growth?
Lemonides: Growth stocks will have a tough run near term. When the Fed drains liquidity, air comes out of overextended names. These companies have been decimated over the last 1½ years.
They may have bounces, but I don’t think investors will focus on them as an opportunity. Classic value stocks will put in bottoms sooner and then lead the market higher. Energy, financial and media stocks will likely lead the way.
Value stocks have held up well recently. Value stocks with tangible assets and cash flow will rebound first. For the long term, beyond six months, it’s a toss-up between growth and value.
Street.com: Where do you see the best investment opportunities?
Lemonides: I mentioned the energy and financial sectors. Though energy had the best relative performance last year, it still has low valuations relative to history and cash being thrown off. Energy companies have been very careful on the investment side for the last three to five years.
With the price of oil likely to stay above $75 a barrel for the next two to four years [it recently stood at $80], earnings will accelerate.
Financials also are at attractive prices. Earnings may have a hiccup in the near term, but they will be higher 12 months from now. The franchises are valuable, and it’s a stable-return business.
Street.com: Can you tell us about two of your favorite stocks?
Lemonides: 1. Qualcomm, [which designs semiconductors for the wireless telecommunications industry.] It has been a tremendous innovator in the communications space for 20 years. It has a dominant position stemming from its technology for 5G and next-generation wireless communications.
That’s becoming more ubiquitous. Their control of technology is unrivaled. It’s trading at roughly 10 times earnings, and we see strong earnings for the next three to five years.
2. Chord Energy. It has one of the leading portfolios of fracking-based oil and natural gas assets in the U.S. Chord was created by a merger last year of two bankrupt companies, which had all their debts canceled. So the combined company was debt free.
Chord is trading at a $5.5 billion market cap. It’s generating over $2 billion of free cash flow and trading times forward earnings. We think earnings are sustainable, and estimates are probably conservative.
The company’s assets were priced at $25 billion at the market’s peak five years ago. You’re getting them now at $5.5 billion. If energy prices stay near where they are, Chord can repurchase its entire equity capitalization in 2½ years.