The recent falls in Apple Inc. (NASDAQ:AAPL) after earnings, followed by collapses in media stocks and the Ackman-Peltz move on Mondelez International Inc (NASDAQ:MDLZ), are signs of where we are in the economic cycle.
Welcome to the greed portion of our program. It could go on for a while.
Every economic recovery has different phases. There is repair, the initial job of fixing what went wrong previously, which lasted years this time because the Great Recession was so disastrous. During this period all sectors but those most damaged by the previous recession, like the big financials, rise sharply. During the recovery phase, stocks move up in line with the economy’s performance and in the growth phase, new economic leadership is established.
The greed phase can last just a few months or several years, depending on whether the underlying recovery is on solid ground. The last decade’s market was not, and the greed phase was measured in months. The greed phase of the 1990s recovery went on for over three years, ending in early 2000. That of the 1980s actually survived the 1987 crash, the economy not falling into recession until right after the Iraq War. The 1970s cycle was foreshortened by high commodity prices.
During the greed phase, the performance of traders and investors will diverge sharply in the short term. As we saw with Apple and Walt Disney Co (NYSE:DIS), the fall of a stock may not be related to corporate performance and may seem to hit hard, but it provides a great opportunity for real investors to get into good stocks for less than they might otherwise. When people talk about “buying the dips” or “waiting for shares in X to hit attractive levels,” they’re assuming that this is a regular thing. It’s not.
It’s a thing during the greed phase only because traders are trying to wring big profits out of businesses that are promising more modest growth, and will either trade in-and-out quickly, buying rumors and selling news, or engage in complex financial engineering schemes to wring out fat profits. That’s what is going on at Mondelez, itself the product of Kraft’s break-up between food units that were slow-growth and domestic focused, and those that were growing faster and had an international bent.
Mondelez is already doing most of what an activist would want, like zero-based budgeting that forces managers to justify every paper clip. What Blll Ackman and Normal Peltz seem to want, with their 10.5% stake, is a major transaction that can be hyped as creating value, or synergy, or at least a short-term profit. Then they will sell. They have no interest in the long-term health of the company.
One way to extract profit is to load up the company with debt and throw more money to shareholders. Mondelez has almost $2 billion in cash according to its June report, and a debt-to-assets ratio of a little more than 25%. That’s barely half that of Kraft Heinz Foods Co (NYSE:HNZ), which Warren Buffett and 3G Capital are backing. A strategic transaction might also include passing Mondelez off to another food company with less leverage, or to spin it off to a company in another country. Mondelez could also do an inversion, moving its official headquarters to Ireland, where its Cadbury unit is based.
There are all sorts of games that could be played aimed not at increasing the company’s value, but at giving Peltz and Ackman a short-term profit that will cause them to go away. Short-term profit is now the name of the game.
But how long will we be here? Economic signals remain strong. Stocks are somewhat overvalued, but that may be a product of the strong dollar, which is not going to reverse soon.
All of which means we may be for quite a while. You can pick up some bargains on days like today, while the big boys are forced to earn their cheese with creative financing. I would not be surprised to be writing this same story a year from now.