Tuesday, May 7, 2013

A Bunch of Defensive Growth Stocks

The market turbulence in April has left many if whether we are headed for another spring sell off. I have no opinion on this, per se, but what I do know is that it always makes sense for investors to try and be diversified. So if you are worried about the economy or just looking to create a balanced portfolio, the following stocks should be of interest.

Defensive growth

I’ve previously thrown some thoughts over on how to best achieve diversification in an article linked here. One of the ideas is to try and have a portion of your portfolio in stocks whose growth prospects are relatively non-correlated with economic expansion or even stocks with prospects that are enhanced by slower growth.

Unfortunately, as the market has moved higher it has fallen ever more in love with the sectors (food and healthcare) that tend to contain such stocks. But that doesn’t suggest you can’t monitor them with a view to buy in should the market drop.

Some healthcare plays

I think Johnson & Johnson still has further to run provided it can get the consumer brands affected by production difficulties back onto the market. In fact, there are many names to look at here, but I would caution against just taking a ‘buy healthcare’ approach. Many of them are exposed to cyclical trends, such as elective procedures or the ability of governments to fund hospital expenditures and reimbursements.

Instead of a blanket approach, companies such as Cooper Companies (NYSE: COO) and Allergan (NYSE: AGN) are worth examining. Eye care is about as recession resistant as it gets, and Cooper is a great way to get exposure.

Around 80% of its revenue will come from Coopervision this year (the other 20% from its Coopersurgical division). While contact lenses tend to grow in any economy, I think the company has upside from increased adoption of its silicone-hydrogel lenses coupled with significant margin expansion opportunities from persuading customers to move to a one-day modality. 

All of this is fine, and the increase in investment in silicone hydrogel makes perfect sense, but it's hard to argue that the stock isn’t trading at fair value right now. Nevertheless, things can change and this exactly the sort of stock that should be bought in a sell-off.

Turning to Allergan, its mix of specialty pharma (including Botox and ophthalmology products) and medical-device products means it can benefit from an aging population. Other drivers are the expansion of the usage of Botox geographically and within indications for spasticity, migraine and bladder treatments.

It does have a dominant position with Botox (Allergan claims a global market share of over 75%), but is subject to increasing competition from Xeomin (Merz Pharma) and Dysport (Valeant Pharmaceuticals). But even if it loses market share, there is enough growth for everyone. Again, the problem is that its valuation is well up with events and fashion. Even with the recent dip it still trades on over 30x current earnings. It's hardly cheap.

Frustrating stock

Another frustrating stock in this regard is Perrigo (NASDAQ: PRGO). Its mix of generic pharmaceuticals, nutritional offerings and over the counter (OTC ) private-label products makes it one of the most attractive defensive growth plays in the market.

There is a clear trend from prescription to OTC drugs and pharmacies are actively expanding their private-label offerings. In addition, expanding generic drug sales is one way to cut down on healthcare costs. In other words, all of its end- market drivers are ways in which to reduce healthcare expenditures. So if I like the stock so much, why don’t I hold it?

Frankly, I think it's too expensive and that some of its targets for this year will not be easy to achieve given what it has reported so far. Let's put it this way:  the top line growth for H1 was only 5.7%, yet its guidance for the full year remains at 12% to 16%. It will need to do a lot in H2 to hit this figure. It strikes me that a buying opportunity in Perrigo will only be created by an overall market fall or a profit warning.

My last suggestion would be to pick up some speculative biotech. Investing in a portfolio of stocks is difficult for a layman so I would suggest looking for a biotech ETF.

The rest

I’m not going to dwell on CVS and Walgreen because I have discussed them at length articles linked here and here. Both have good growth prospects thanks to demographic changes, the expansion of their private-label offerings and the necessity of offering more personalized services to customers with ailments (ex diabetes) that require monitoring and ongoing treatment.

I think a food stock such as Cal-Maine Foods is worth a look. I covered it recently in this article. If eggs aren’t recession-resistant than I don’t know what is!

The last two stocks to consider are Church & Dwight (NYSE: CHD) and TJX Companies (NYSE: TJX). The former is a consumer-products company that competes with some giants within its various collection of niche markets. But therein lies its strength!  It’s a small company and its management has the experience and ability to know how to defend its brands from competition.

It is also flexible enough to react quickly on pricing and promotions. So if one of its much larger competitors decides to aggressively price discount or promote within one category, it has the capability to make up any shortfall by taking action in other categories.

Moreover, given that around 40% of its brands are value brands, it has been a key winner in the desire for consumers to trade down or to buy more products via discount stores.

And finally, TJX Companies offers a very unusual proposition. Most investors know of its benefit as an off-price retailer in a slow economy, but what makes TJX interesting is that it's a retailer actively expanding in Europe. US investors should recall that the most notable Western shift toward discounters occurred in Germany after the reunification. In other words investors should embrace the European expansion plans rather than be afraid of them. I see it as a net positive.

For example, discount grocers such as Aldi and Lidl saw rapid growth, and I see no reason why an off-price retailer like TJX can’t do the same with clothing and home goods in Europe. As for competitive moats, I think that inventory purchasing with clothing and home goods requires a different set of skills than pure ‘pile em high sell em cheap’ approach taken by the discounters. 

Many thanks for sticking with a long post, and I hope there are a few useful ideas here!