Streetwise

Lauren Rudd

Sunday, March 9, 2014

Do Not Exit Stage Left

Did this week’s market volatility have you thinking about what might have happened, or still might happen, if the political winds shift in the wrong direction; that maybe this when you should exit stage left for the supposed safety of cash or bonds. I would encourage you to seriously reconsider any such move.

Cash is certainly no refuge when you consider that you are being subjected to a never-ending reduction in your purchasing power, due to inflation. Moreover, as interest rates rise, and they surely will, the market value of a bond steadily decreases. Oh, but you are going to hold to maturity.

Well, inflation, even as benign as it is now, will not only reduce the purchasing power of your interest payments but that of your principal as well. Yes, inflation is currently a subdued 1.7 percent. However, the average compounded annual growth rate of inflation over the past 40 years is 3.2 percent. And the same 40 years of statistical data shows an average annual compounded total rate of return for equities of about 11 percent.

Now I know what you are thinking, I did not take into account the actuarial tables. Look, 40 years from now I too will be in residence at the “Happy Hunting Ground.” Famed economist John Maynard Keynes put it well when he said; “In the long run we are all dead,” which is all the more reason to avoid long duration bond portfolios and their minimal returns.

Unfortunately, market volatility, when combined with a fear of the unknown, readily foments paranoia. Preying on this predictable turmoil of investor emotions, and the associated vulnerabilities they create, are the peddlers of Wall Street. They have all the conscience of a cow in a stampede. You were better off listening to the late Madame Marie on the Asbury Park boardwalk. At least she admitted to using a crystal ball and it was a fine one indeed.

More to the point, investing is all about fundamental value. However, ferreting out the necessary data is not always easy. Wall Street is a primordial sea of rumors, opinions, exaggerations and occasionally even a few facts, all of which contribute to a continual buffeting of stock prices.

Your task is to strip a company stark naked. Look at its basic financial numbers; analyze its product line, customer base, suppliers and management. Then top off your analysis with some good old-fashioned common sense. After which, with all the pretenses and hype gone, you can make an accurate assessment of the company's true value.

Indian guru Swami Parthasarathy put it well when he said, "The mind is made up of emotions, feelings, impulses, likes and dislikes. The intellect thinks, judges, decides. When the intellect is not strong enough, the mind takes over and plays havoc. You are the architect of your fortune. You are also the architect of your misfortune. Do not blame the world."

So where to begin? One good place might be the 3M Corporation (MMM). When I last wrote about the company a year ago, my earnings estimate for 2013 was $6.86 per share with a 12-month price target of $118.

Earnings for the year came in at $6.72, while the shares recently closed at $132.68. Sales increased 3.2 percent to $30.9 billion with organic growth of 3.4 percent. Acquisitions added 1.4 percent and foreign currency took away 1.6 percent. The company converted 89 percent of net income to free cash flow and generated a 20.0 percent return on invested capital.

Management has reiterated its 2014 guidance of earnings in the range of $7.30 to $7.55 per share with organic sales growth of 3 to 6 percent. Moreover, progress continues to be made on translating research and development dollars into sales growth. The downside of a highly international company like 3M is that a rising dollar has a negative impact on sales.