Stock Picks From T. Rowe Price

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The US stock market is still the best wealth creation vehicle in the world. And you hear all this stuff about, oh, Japan, corporate reform, etc., or Europe's cheap. Well, we have real GDP growth in America.

Hello and welcome to the Barron Streetwise Podcast. I'm Jack Howe, and the voice you just heard, that's Peter Bates. He's the portfolio manager of the Global Select Equity Strategy at T. Rowe Price, and he's going to talk to us about some of his favorite stocks and how to pick stocks. He's quite bullish on the US. Not everyone is at the moment. We'll talk about that too and run quickly through the cheapest 10 stocks in the S&P 500. And we have a couple of quick listener questions, one themed on Halloween. Ooh, spooky. Listening in is our audio producer Jackson. Hi Jackson.

Hi Jack.

What are you going as for Halloween? You're a grown man. You don't go as anything.

I think my time for dressing up is over.

My boy told me, I want to go with some— something scary this year. I said, I said, what, no Buzz Lightyear? No, uh, Mandalorian? No, uh, big poofy Among Us cartoon character? Of course not. He's 10 years old. He's ready to scare. That's one of those milestone moments. All right, we have no time for this nonsense. Packed episode. Listener question, who do we have?

We have Ian from Uganda. He wrote in and he said he wants to hear our thoughts on pop-ups like Spirit Halloween and the real estate stocks exposed to that kind of business model. And he'd be glad if we answered the question. And he wants us to know we have listeners, at least one listener in East Africa.

Ian from Uganda. I have been there. I spent a lovely couple of weeks in Uganda in my, let's say, mid-20s. Spirit Halloween is that pop-up store that fills kind of abandoned stores shortly before Halloween. It's one of those things that you see, you're familiar with, but you don't think a whole lot about, or you didn't think a whole lot about until this year when a TV show here in the US called Saturday Night Live decided to make it the subject of one of their spoof commercials.

Since 1983, Spirit Halloween has been helping our struggling communities by setting up shop in every vacant building in the country for 6 weeks And then bouncing.

And thanks to us, what used to be a condemned AutoZone where a murder happened is once again a thriving business where a murder happened. More recently, CNBC The Business Channel aired an 11-minute little documentary on Spirit Halloween. It's called The Business of Spirit Halloween, and you can find that online, and it'll tell you a lot of what you probably want to know, so I won't repeat all that here. I'll just point out a few little fun facts. First of all, the company was bought in 1999 by Spencer's. Everybody knows Spencer's, the mall chain. Jackson, you ever been in a Spencer's? Spencer's Gifts, I think it used to be called. It's like a novelty kind of thing.

Oh man, no.

Ever been in a shopping mall? That's kind of like a big building where they put a lot of stores together.

And is it kind of like Amazon.com?

But it's exactly like that, but with bricks and with a food court where there's a Chinese restaurant, a Mexican restaurant, a Greek restaurant, and it all tastes like the same food. So the company pops up a few months before Halloween, does its thing, and then closes. And that's not really an attractive proposition for real estate owners. They want long-term leases, not short-term leases. If you want to do something short-term, you probably have to pay a big premium for that space. But if you're Spirit Halloween, you have a good track record, landlords know you'll be in and out without much hassle, so you don't have to pay too much. And really, the opportunity for Spirit has been something I have talked about in the past, including on this podcast, that America is grossly overstored. One analysis by the University of Virginia found that the top 5 previous tenants where there's a Spirit Halloween— in other words, the stores that had closed— they were Rite Aid, something called Tuesday Morning, Bed Bath Beyond, Sears, and CVS. And CVS, of course, is the only one of those that didn't file for bankruptcy somewhere along the line. It's easy to think that this is because of e-commerce, the internet, Amazon. But as I've talked about before, I think it's largely to do with the fact that in the 1980s we just put up way too many stores and way too many malls. And now we're right-sizing as a country. And when a store closes, that's an opportunity for Spirit to get some space on the cheap. For the companies that own this real estate, Spirit helps to pay the bills. It does more than $1 billion in revenue per year. That's a lot, but on the scale of the real estate that we're talking about, I don't think it really moves the needle that much. Jackson, I can't remember if I heard this from you or I heard it somewhere else. Maybe this was from one of the late night show monologues, something about there's Spirit Airlines. That's an airline that has— that's struggling financially because their merger with JetBlue fell through, and there's speculation that, um, there might be worse days ahead for the company financially. And someone made a comment that, hey, couldn't you just turn Spirit Airlines into Spirit Halloween? Was that you?

No, it wasn't me, but that's a great idea.

It's a terrible idea, but if we're gonna brainstorm it, I guess what you could do is— what do you paint the planes for Halloween and then you can just relocate them, right? Wherever the market's hot.

And then maybe use it for all, all sorts of seasonal businesses.

Spirit Christmas, Spirit, uh, Spirit Halloween, Spirit Valentine's Day. Yeah, you could do a Halloween—

there's a lot of ideas. There's probably some sort of FAA regulation against Spirit Fireworks stands, but we'll see.

Spirit Discount Smokes and Fireworks. I don't think that's going to fly. Now we do have one more question we're going to get to in a bit. Uh, the listener's name, Jackson, is—

his name is Bob, and he—

Bob taped it on his phone, as we often ask people to do. But what he did was he— I think he taped— he used Scotch tape to put a note with his question on his smartphone. Have I got that right?

Yeah, it's written in blue pen. It says, what are your thoughts about Hawaiian Electric?

Bob, we appreciate the gag and the question. We're gonna get to it at the very end. Let me say a few quick words about where the US stock market stands and which stocks are cheap and why. I find it remarkable that the S&P 500, which was already doing well a year ago, has returned nearly 40% since then. That has some people wondering if it's come too far too fast. When I look at the price-to-earnings ratio, if we base it on this year's earnings estimates, it's over 24 times earnings. If we look at next year, it's 21 times. I think if you look at the long history of stock performance, a normal P/E ratio is something closer to 15. If you look at the more modern era, maybe you come up with a high teens figure, but a figure well into the 20s like now seems expensive. There was a report recently from Ben Inker. He's the co-head of asset allocation at GMO, which is an asset manager, and he's been on this podcast before. And he wrote, the investment landscape today looks eerily similar to 1999. That, of course, near the peak of the dot-com stock bubble. Back then, GMO calculated that a 60/40 portfolio of stocks and bonds was priced to return only around 2% a year after inflation over the following decade. That compares with 8% a year over the prior decade. So in other words, It took the priciness of the stock market to mean that future returns would stink, and of course the market crashed in 2000. Valuations would look higher now if it wasn't for some of the huge profits already being earned in artificial intelligence, including from NVIDIA. There is a measure that adjusts for the tendency of earnings to inflate when markets are high and to shrink during downturns. That measure is called the cyclically adjusted price-to-earnings ratio, or CAPE. Right now, the CAPE in the US is higher than it was just before the Great Crash of 1929. It's almost as high as it was just before the dot-com stock crash. And David Kostin, the chief US equity strategist at Goldman Sachs, who we've also had in the podcast, he predicts an S&P 500 return of just 1% a year from here after inflation over the next decade. Now, there are still plenty of bulls, of course. Remember a couple of weeks ago here, we heard from Joe Quinlan, at Merrill Lynch Bank of America Private Bank. He talked about AI and automation and capital spending, and he said, quote, the ruthlessness and restlessness of corporate America is going to continue that great upward track record. And we will hear in a moment from Peter Bates at T. Rowe, who is similarly bullish. But if you're worried about extended valuations, you could look to cheaper stocks. It's not super easy to find them. It's not just a handful of AI giants that are making the stock market expensive. The S&P 493, if you will, or, or the index minus what we call the Magnificent Seven, these big tech companies, that still looks fairly expensive right now. You can buy index funds that favor value stocks automatically. There's one from Invesco called S&P 500 Pure Value, and it's designed to track stocks with deep value characteristics. There's another one from Invesco, it's got a lot of acronyms in the name, it's called the FTSE RAFI US 1000. Better just stick with the ticker, which is PRF, and that one weights companies by measures of economic output rather than market size, and you end up with a value tilt. GMO uses a portfolio strategy that it calls benchmark-free allocation. It changes its mix for the conditions. Right now there's a heavy weighting in overseas stocks. GMO writes, the US is trading at or near its largest premium ever relative to the rest of the world. The firm also uses a strategy of buying the cheapest 20% of the US stock market and selling short or betting against the most expensive 20%. It does this based on what it calls, quote, extreme dislocation in the relative prices of the two. Is anyone interested in hearing about the 10 cheapest stocks in the S&P 500? Anyone at all? Anyone participating in this recording with me now who could respond?

I'm interested. I'm on the edge of my seat.

You've talked me into it. I just want to preface this by saying this is not a great investment strategy. Just buying the 10 cheapest stocks based on a screen of PE ratios. It's simplistic. If you did it a year ago, you've made out great. Your average return has been 52%. You beat the market by more than 10 points. That means absolutely nothing for what this strategy will do going forward. Think of this mostly as an illustration of which kinds of stocks are cheap and why. They all look and sound horrible. That's why they're on the list. I'm going to guess that one or two of them will do very well. From the list a year ago, United Airlines, that's up 112%. That's actually still on the list this year, which tells you something about how cheap it was to begin with. Synchrony Financial, it's a credit card company. That one also doubled. That's off the list. PulteGroup, the builder, that was up more than 90%. General Motors returned more than 80%, still on the list. You don't buy a deep value stock because you think the company is going to fix all of its problems soon. As Ben Inker at GMO writes, cheap companies as a group don't grow as fast as the average companies, but some of them wind up positively surprising investors. In other words, even if they don't fix everything, for some of them it turns out that people's worst fears weren't realized and the price might have been too pessimistic. It's just pretty hard to know which companies that's going to happen for. You think, well, GM did so well over the past year, Ford must have done well too, right? Nope, it stunk. It was on the cheapest list a year ago and it still is. Okay, so here's the list. The cheapest stock in the S&P 500 was a year ago and remains a company called Viatris. And if you feel like that sounds like Viagra, you're on to something. The company was created in 2020 through combining a spinoff from Pfizer with the EpiPen maker Mylan. I think Pfizer wanted to look better by spinning off some slow-growth businesses. And I think Mylan was— how shall I put this, Jackson— hated by everyone, right? Not just investors, consumers. I mean, because that EpiPen, it's like they, they basically just own that EpiPen and jack the price up year after year after year after year. And if you have a kid who has allergies, You have to buy the pen, you got to buy a 2-pack, and then they expire and you got to buy another one. And every time you turn around, the price has gone up by another $100. There's more to that story, but suffice to say that I don't think the company minded at all an opportunity for a name change. And so today, Viatris makes Viagra, Lipitor, Celebrex, and some other former blockbusters. And there is loads of free cash flow. Management estimates more than $2.3 billion a year in the years ahead. But there's no growth. The business has been in steady decline for years. The plan is to spend half the cash on shareholder treats—dividends and stock buybacks—and to put the rest of the cash toward in-house drug development and other ventures to find some growth. Wall Street's best guess is that revenues will continue slipping this year and next year before stabilizing in 2026. We will see. Now, General Motors is 5.3 times earnings and Ford is 5.9 times earnings.. There's also an auto component supplier called BorgWarner that just barely makes the cheapest 10, 8.3 times earnings. I know we've had Ford CEO on the podcast and BorgWarner CEO. I think I only spoke with GM for the magazine, not the podcast. If I've got that wrong, forgive me. I'm sure it was a wonderful conversation. So what's going wrong in legacy autos? I think it's just a struggle to get the timing right on the shift to electric vehicles. Companies went all in on spending there just as demand from consumers kind of cooled. People are really into hybrids right now. The good news there is that this past week GM shares jumped 10% in a day after the company topped Wall Street forecasts and raised its guidance. It cited consumer strength. Ford reports next week. So does BorgWarner. Okay, Walgreens Boots Alliance. That made the list. Take everything we said negative about CVS's drug chain on this podcast a few weeks ago, subtract out the financial support you get from CVS owning a big health insurer and a big pharmacy benefits manager, and you've got Walgreens Boots Alliance. It is not an easy time to be a drugstore chain. You're getting squeezed by industry middlemen on your reimbursements, and there are too many of these stores and businesses fading on general merchandise because people are going to the likes of Amazon and Walmart. And so pretty much the whole industry is closing stores. Rite Aid recently emerged from a bankruptcy restructuring with a lot less debt, and now it's operating as a private company. Moving forward quickly, Jackson, let's not get bogged down now. Everest Group, that's a reinsurer. They sell insurance to other insurers. 6.5 times earnings.

It's a steal.

It's been hit, I believe, by anxiety over global warming, and the company recently added to its loss reserves. But two things I can tell you about that company are it's profitable and growing, and my colleague Andrew Berry recently recommended the stock at Barron's. Okay, Paramount Global. That's a, shall we say, fading legacy TV business combined with a subscale streaming operation and a storied but struggling movie studio. I realize I'm not really selling it. They have Yellowstone, I mean, I think Costner quit that to do a cowboy movie that flopped. Forget I said that. So the company is the subject now of a takeover deal. And the critics say it's a better deal for Paramount's controlling shareholder than it is for its ordinary shareholders. You might agree or disagree. The board appointed a special committee to look into it. And that committee says that it shopped around. So I think there, what you've got is a company you could say is cheap, but you could also say is going to stay cheap if this deal goes through. There's a couple of oil drillers on the list. APA, that owns Apache, 6.5 times earnings, and Devon Energy, 8.2 times earnings. Crude oil prices, last I checked, were down around 19% over the past year. Forecasts for demand have been falling, especially for China. The economy there is weak, and there has been a rapid shift there to electric vehicles. And so Wall Street has been trimming its earnings forecast for drillers, and that has sent share prices lower. And finally, the last one on the list is the holdover I mentioned earlier, United Airlines, 7.3 times earnings despite that big run-up. And the biggest bull on the street for United is JP Morgan. Its analyst points to cheap carriers like Southwest adding fees and upcharges. He wrote recently, for over a decade, we believe Southwest and others structurally over-earned at United's expense. United is in the early innings of reversing this phenomenon. Is there anything on that list, Jackson, that gets you excited, that you think is a great deal and you think is going to fly higher over the next year?

I like your thing about Viatris having the treats for shareholders and the, let's call them tricks, to come up with new medicines. You're picking Viatris.

Is that what we're saying? You're betting it all.

You're Yeah, I was just thinking, you know, EpiPens, Viagra, maybe there's some synergies there. How exactly would— so you're in anaphylactic shock, but yeah, we, we don't have to get into the details. Got it.

I'm going to go with Everest because my pal Andrew Barry picked it, so if it doesn't work out, I'll blame him, and if it does, I knew it all along. And that's a good time to take a quick break. When we come back, we're going to hear from Peter Bates at T. Rowe Price. He'll tell us about 4 stocks he thinks investors ought to buy right now.

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Welcome back. How about some stock picks? I spoke recently with Peter Bates. He's portfolio manager of the Global Select Equity Strategy at T. Rowe Price. And for a global stock guy, he seems to like the US a whole heck of a lot. Jackson, let's roll him.

Rolling.

Hey, Peter, what are we going to do about this US stock market? I'll tell you what I see. The S&P is up something like 40% over the past year. I mean, it's gone from, from already pretty good to a lot, lot better. So you tell us, what should we make of the market? What do you think is coming and what should we do?

I don't buy the argument that you're not going to make good returns in the US stock market the next 10 years. In the near term, valuations are a bit inflated. The US stock market is still the best wealth creation vehicle in the world. I'm a global investor and you hear all this stuff about, oh, Japan corporate reform, et cetera, or, or Europe's cheap. Well, uh, we have real GDP growth in America and I think we will continue to have real GDP growth. You know, the other thing in America is we have population growth and more people helps drive the economy. And we have population growth because we have a higher birth rate and we have immigration. I don't want to make this political, but I think immigration is good for our country. And we need people that want to come here and work. And so I could very well see a 5% or 10% correction because a 22 PE, the market's been really strong to date. But if you look out 3+ years, I think you want to own US stocks.

This is doing my heart good to hear this, Peter, because I don't feel like making any radical changes. I like the things that are working. I want them to keep working for a long time. So now you're at, at T. Rowe Price and you folks do some active management. You make decisions, you pick and choose things. Give us a broad overview of the kind of things that you're favoring for investors going forward from here.

We are looking to invest in companies that can compound value. I mean, that sounds very kind of hokey and, and maybe, um, oh, well, everyone wants to do that. But just think of how many companies exist that because of, of how things change, they end up going backwards. And like, the key example of that from my career is I remember 20 years ago talking about Kodak and how cheap Kodak was. Well, this thing called iPhone came along and pictures went digital, and so it didn't matter how cheap Kodak was, because Kodak was completely on the wrong side of change. And, um, Jack, I, I can see you on screen, and, and I know you're old enough to remember the days of getting your film, you know, taking your film and getting duplicate prints, and you'd throw away half the pictures and keep half the pictures.

You— your half years were good. I got about 4 good pictures when I turned in a roll.

So, so at, at the core, we spend a lot of time working to make sure that we don't get stuck in companies that end up going backwards.

Rates are falling, but how low do you think they'll fall? And, and the inflation rate has certainly come down, although people are feeling the pinch of, you know, their prices haven't been reset higher. What do you think will happen with rates, and what kind of stocks you think will benefit? That's about 11 questions in one. You can take them in any order you want.

I think, A, I don't know. And as a portfolio manager you can build a portfolio that just wins or loses based off the direction of interest rates. And I prefer to take the approach that I don't want to call the direction of interest rates, but I want to be aware of what could happen. And I want to own the best stocks that benefit from rates going up, as well as I want to own the best stocks that benefits if rates fall. So to level set, uh, I do not take that macro interest rate bet. Within the funds that I manage. I, I think that's akin to, to just kind of going into a casino and betting black. But when you ask, well, what kinds of stocks could do well that historically haven't done well, well, frankly, an example would be life insurance. For almost a decade, life insurance was borderline uninvestable because interest rates were so low. And if you're a life insurer, you're effectively selling annuities and products where, you know, you're receiving money to commit to a certain payment in the future. And if the money you receive is being invested at really low rates, that spread between what you can earn over your commitment is, is harder to achieve. Well, with a higher rate environment, I think life insurance companies are positioned to kind of have better returns the next decade than the last decade. And I now own a life insurance company. And frankly, 5 years ago I thought, oh, I'm never going to own a life insurance company.

Are you able to mention the company that you own? Sure.

It's funny, I came into this conversation with like 2 stocks ready to talk about, but I didn't expect to talk about this one. But it's, it's Corbridge.

That's good because the minimum requirement is 3 stocks. So we'll throw this one in the bunch and then we'll have it.

So it's Corbridge Financial. It spun out of AIG. Orrbridge offers life insurance and annuities, and they're selling a commitment to offer a return of, let's call it, 3%, and they're now able to reinvest those premiums in very attractive fixed income securities without a lot of credit risk at 5% or 6%. So their spreads have widened and the stock is trading at I think it's just trading like it's 6 or 7 times earnings because the market is saying, oh, rates are going to fall, your spreads are going to compress. But while we wait for that to happen, they're going to make a lot of money, and they're also being very disciplined with that capital.

So that's a good one. That's interesting. You mentioned there's two others that you like.

Can you tell me about those? The next stock I'll highlight is— frankly, I think it's a growth stock. But it gets bucketed in the value category because it's a steel company, and steel companies benefit from inflation and higher interest rates. And this company is called Steel Dynamics. This is also a low multiple stock. Uh, they're trading at about 12 times earnings. And I say it's a growth stock because they, they have new capacity in Texas that is ramping. The plant was opened oh, I think 18 or 24 months ago, and most plants operate at 90%. This plant is only at 60% utilization, and it just takes time to kind of ramp, ramp facilities. The other area that offers growth is they have been investing in an aluminum plant, and it is massive. Like, if you go online, they have video images of the plant. It's almost like they're, they're building a town. That plant will finish construction in early '25 and come online in mid-'25 and start to ramp. And the US market is short aluminum, meaning we have to import aluminum to satisfy our demand. And obviously, this plant being local and set up to make aluminum with recycled aluminum, it will allow them to have a cost advantage to take share from what is currently being imported from other countries. And so that creates a nice growth driver. And I would argue that the CapEx they have spent is really being ignored by the market because you haven't seen any of the benefits of this aluminum plant, and you're not going to until 2026 because the plant will initially have losses in '25.

So they've already spent the money to build the new stuff, and that spending of the money Creates the appearance that results aren't so great right now, but that's because the money hasn't yet flowed into this new stuff that they just built. And that's going to happen in the next couple of years.

Yeah. And at the least, you know, free cash will improve significantly as the plant is completed. And I think this is a management team that will buy back stock.

You have a very good captain at the ship. So we have insurance, we have steel. I don't see any theme here. It's totally open. The third one could be hot dogs. It could be— I don't know. I can't guess.

What do we have for the third one? So, uh, and this is a growth stock, um, but they don't just benefit from low interest rates, they benefit from the structural shift that is happening in the way drugs are developed and produced, and, and that is linked to biologics. What is a biologic? Well, a biologic, in instead of kind of mixing chemicals, you're almost growing and culturing the compound And I would say I'm a finance person, not a biologist or a scientist, but it's a completely different way of making the drug. And you're, again, you're kind of growing it and culturing it in fluid in temperature and air controlled vats. And then you have to use filtration to extract what you don't want to get down to what you do want. And it's often a liquid that you end up injecting into your body. And the biggest example of a biologic today is, is the, the weight loss drugs that all have the, the GLP-1 kind of compound in them. One of the leading companies that sells all the equipment that is used in that production is a European company called Sartorius. Roughly 80-90% of their sales are linked to the biopharma processing industry, and that industry offers very steady, stable growth of, let's call it, 10 to 15%. And again, Sartorius is one of 3 or 4 companies globally that makes the tools needed to make these drugs. And so you're not betting on the specific pharmaceutical company, like an Eli Lilly or a Pfizer, you really don't care who develops the compound because it's almost like the analogy you're selling the picks and shovels to the miners. And Sartorius is, is not cheap. It trades at 30 to 40 times earnings, but earnings are in the process of inflecting and reaccelerating higher because COVID effectively created a bubble because all the vaccines that were created are made through this biopharmaceutical process, and we are now in a bottoming process, and we are getting back to the structural growth rate, which, which I think is again low double digits. Thank you, Peter.

One last piece of business. We had that question from Bob about Hawaiian Electric. Wall Street is not a whole lot of help on this one. According to FactSet, only 3 analysts cover the stock, and they all say hold. The average price target isn't really that far from where the stock is now. I don't know much about the company, and I don't have plans to dig into it on this podcast, but I did ask Peter. He doesn't own it, and he hasn't done a deep dive in the company, but he did offer some thoughts about how to decide whether to invest.

Just like you, you had Pacific Gas and Electric go bankrupt because of fires that were linked back to negligence at the utility. I think that is a risk for, for this company, uh, and I am not in the weeds to offer an opinion about whether that risk is justified or not. And, you know, I just— I pulled up the stock chart and you see the stock used to be at $35 or $40, and then it precipitously dropped down to roughly $10 where it is today. I think that's the main issue there. And to own the stock, you have to have a strong opinion that they'll either be legally cleared from fire risk obligation, or if they're held responsible, the company's probably going to go bankrupt.

Thank you, Peter. Thank you, Bob. And thank you, Ian. Thank all of you for listening. Jackson Cantrell is our producer. If you have a question you'd like answered on the podcast, just tape it on your phone. And by that I mean Make an audio recording of your voice using the voice memo app on your smartphone. Send it to jack.hough@barons.com. See you next week, all you happy Halloweeners. That didn't— that didn't sound great. You know what I mean.

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