Investors Financial Services Corp. (IFIN) declined 13% for the quarter and 33.2% year to date. It is our second worst performing stock for the year. UTSI is the worst. The drop in IFIN stock price resulted from declining earnings growth. We looked at IFIN two months ago. This is a relook.
On July 17, Investors Financial cut its earnings forecast. The company gave 2005 earnings guidance of $2.30 a share, with core earnings flat with the year-ago $2.09. The company said 2006 core earnings would rise 8%-10%. Analysts had forecast earnings of $2.50 a share for 2005 and $2.98 for 2006. See page 2 of the second quarter earnings report for the companies explanation.
The announcement predictably drove the stock price down, although the market had already discounted the decline in earnings growth with the stock price slowly declining since February. See IFIN price chart. The bottom feeders of the securities bar immediately filed multiple class actions alleging that management had misled shareholders with false optimism prior to the reduced earnings guidance. The filing of class actions under the Securities Exchange Act of 1934 whenever a company announces bad news has become a cottage industry that ought to be closed. The litigating attorneys frequently settle these class actions for their fees and expenses and some minimal compensation to the shareholders. Most of these class actions are a wasteful drain on an overburdened legal system and on the finances of the targeted companies.
Morningstar rates IFIN with three stars, a narrow moat, and a “D” in stewardship, and concludes that it is fairly valued at $35. (It’s current price is $32.90). Manifest Investing gives IFIN a quality rating of 64 and estimates a PAR as 21.2%. The Investors Advisory service also has IFIN as a buy up to $53.
The company’s core business offers a wide range of administration services to mutual fund complexes, investment advisors, family offices, banks, and insurance companies. That business seems to be solid although it operates in a very competitive environment. The company’s banking services have suffered the same slow down as other banks due to flatter yield curve and narrower investment spreads. The market has probably over reacted to the news in July. Our current stock selection guide shows a projected average return of 19.4%. IFIN is a hold for now. However, we have four financial stocks, CBH, FITB, COF and IFIN. We may want to consider pruning back.
The Moose Pond Investors portfolio increased in value 1.5% for the third quarter of 2005. In comparison, the S&P 500 increased 3.2% and the Russell 3000 Index increased 4%. Overall, the portfolio has a quality rating of 72 (out of 100) and a projected average return of 15.4%. the quality rating is excellent. The PAR is is very good too but could be raised a little. The percent changes this quarter for our five best and worst stocks are listed below.
The Russell 3000 Index is a total market index representing approximately 98% of the U.S. equity market. The S&P 500 Index is a large cap index that includes 500 companies reflecting 80% of the same market.
Q3 Portfolio Winners
Amgen (AMGN) +31.8%
Chevron (CVX) +15.8%
Maxim Integrated Products (MXIM) +11.6%
Lowe’s Companies (LOW) +10.7%
Cardinal Health (CAH) +10.3%
Q3 Portfolio Losers
Investors Financial Services Corp. (IFIN) -13.0%
Patterson Dental (PDCO) -11.2%
Fifth Third Bancorp (FITB) -10.0%
Pfizer (PFE) -9.5%
Wal-mart Stores (WMT) -7.8%
Here are one-year price charts for the stocks in the Moose Pond portfolio and for the S&P 500 and the Russell 2000. If you click on a chart, it will take you to the Yahoo! Finance page for that stock. The charts automatically refresh each time the page is loaded. Placing the cursor over a chart will show the 5-day chart.
The Moose Pond Investors portfolio has an average projected average return (PAR) of 14.5% and an average quality rating of 72 (out of 100). Both the portfolio summary and the related stock selection guides have been revised. Follow the links on the portfolio summary to open the SSGs.
The PAR for several stocks in the portfolio has fallen to 10% or below. They are Amgen (AMGN), Capital One Financial (COF), Harley Davidson (HDI), Johnson Controls (JCI), Lincare Holdings (LNCR) and O’Reilly Automotive (ORLY). Both COF and HDI face declining revenue growth and might be good candidates to replace soon.
You can cross check our calculations for PAR with the club dashboard from Manifest Investing.
Manifest Investing was founded by two NAIC members. Their web site uses Value Line data to estimate 5-yr projected average return and stock quality.
The Manifest Investing “dashboard” is very similar to our portfolio summary. In fact, we borrowed the idea from them of displaying PAR and quality as two of the primary metrics for portfolio management.
Sometimes you will find differences in the value of PAR shown on the Manifest Investing dashboard and our portfolio summary. We use the NAIC stock selection guide to calculate PAR. This requires the application of some judgment. In contrast, Manifest Investing uses a formula that applies Value Line data. Manifest Investing relies on the judgment of the Value Line analysts. Both appoaches are helpful. When there is a significant difference in PAR, we should try and understand why that has occurred.
The Manifest Investing dashboard updates automatically to reflect current stock prices. Our portfolio summary is updated monthly. You might find it helpful to review both. The dashboard link in the “About” section (upper left) will take you to the Manifest Investing dashboard for our portfolio.
When a stock appreciates in value, how much of that appreciation comes from earnings growth and how much comes from PE expansion? (Note: PE expansion occurs when buyers are willing to pay a higher price for the same amount of earnings. The price per share / earnings per share or “PE” ratio increases.)
Clearly, PE expansion was a major factor in the stock market gains that occurred between 1982 and 1999. Crestmont Research has an interesting chart on its web site that shows year end PEs for the S&P 500. The chart is arranged to show secular (long term) bull and bear markets.
Over the 17 year period from 1982 to 1999 (which Crestmont Research and others characterize as a bull market), the average PE for the S&P 500 rose from 7 to 42. At an annualized rate, the average PE increased 12.8%. This is a significant PE expansion for the market as a whole. For the 10-year period from 1989 to 1999, the average PE rose from 17 to 42, an annualized increase of 9.5%. And, for the 5-year period from 1994 to 1999, the average PE rose from 21 to 42, an annualized increase of 14.9%.
During these periods, any basket of stocks that generally had the characteristics of the S&P 500 would have increased significantly in value due to PE expansion alone. Earnings growth and overall market PE expansion together provided some impressive gains during the 1982-1999 period.
There is not much an individual investor can do about PE expansion or contraction. PE expansion and contraction are long term cyclical events that happen to the market as whole. Market PEs have been contracting for the last several years. The current PE for the S&P 500 is around 17. Declining high and low PEs since 1999 can be observed on the SSGs of many stocks.
What does this all mean for the average investors? First, PE expansion is something we can hope for but, like the weather, can’t do much about. Second, PE contraction seems more likely than PE expansion for the market over the next few years and possibly longer. Just look at the historical market PEs. Will the current market PE contraction stop at 17 or continue to 15, 12 or 7, and, if so, when will it stop? Third, the current market PE contraction makes achieving a 15% annualized return even more of a challenge.