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Dow Breaches 23,000, Thanks to “Boring” IBM

By John Persinos on October 18, 2017

Many analysts are in the habit of dismissing technology giant IBM (NYSE: IBM) as a stodgy “has-been.” All stocks should be this boring.

IBM on Wednesday powered the Dow Jones Industrial Average past 23,000, as shares of Big Blue soared in the wake of strong third-quarter operating results. However, as I explain below, you should be more excited by IBM’s newly found dynamism than by the frothy Dow crossing an arbitrary boundary.

Among the most attractive investment opportunities in today’s overbought environment are blue chips such as IBM. These Steady-Eddy stocks are plays on economic recovery, but their earnings momentum and solid balance sheets should keep them on an even keel when the broader market stumbles.

Buoying the markets this week have been positive third-quarter operating results from IBM and other mega-caps that are bellwethers in their respective industries, such as Johnson & Johnson (NYSE: JNJ), Morgan Stanley (NYSE: MS), and UnitedHealth Group (NYSE: UNH).

Below, I take a closer look at IBM and the forces behind its rise on Wednesday. First, let’s examine the closing numbers.

Market Wrap: Wednesday, Oct. 18

All three major stock market indices closed the day higher:

  • DJIA +0.70% to 23,157.60
  • S&P 500 +0.07% to 2,561.26
  • Nasdaq +0.01% to 6,624.22

Wednesday’s Big Gainers

The technology icon reported stellar third-quarter results on Tuesday that confirmed the wisdom of its long-term strategic redirection.

Before the opening bell on Wednesday, the financial services firm unveiled positive operating results.

The health benefits manager announced on Wednesday a potentially lucrative managed care partnership with CVS Health (NYSE: CVS).

Wednesday’s Big Losers

The specialty pharmaceutical maker recently lost an important drug patent case in the courts that could devastate revenue.

Analysts lowered their forecasts for CMG’s earnings next year due to stubbornly high labor costs and repeated food safety problems.

The video game producer announced on Tuesday that it would shut down a studio making a much-anticipated Star Wars action-adventure game.

Stock Spotlight: Big Blue’s Bounce

IBM is the Rodney Dangerfield of technology stocks. It gets no…well, you know how the rest of the joke goes.

When the performing seals on financial television start barking about the technology sector, they tend to focus on Apple (NSDQ: AAPL), Alphabet (NSDQ: GOOGL), Facebook (NSDQ: FB), Netflix (NSDQ: NFLX), Microsoft (NSDQ: MSFT), and other media darlings. IBM is either ignored or denigrated as a relic. As usual, the consensus is dead wrong — and therein lays a moneymaking opportunity for independent-minded investors.

IBM was founded back in 1911, which to smartphone-wielding consumers under the age of 30 seems like the Stone Age. In today’s digital era, as entrepreneurial start-ups launch game-changing products and services, IBM is written off as a maker of antiquated mainframes.

The millionaire techie hipsters in the wine bars of Northern California roll their eyes when Big Blue is mentioned. They perceive IBM (based way out in Armonk, New York, of all places!) as a doomed mastodon that’s floundering in the technology tar pits.

This false narrative was blown to shreds by IBM’s operating results on Tuesday.

IBM posted better-than-expected earnings for the third quarter of fiscal 2017. Earnings per share (EPS) came in at $3.30, compared to the consensus estimate of $3.28. Revenue reached $19.15 billion, versus expectations of $18.6 billion. Management gave full-year EPS guidance of $13.80, whereas analysts had expected $13.75.

IBM’s analytics, cloud, mobile, and security segments, which the tech giant is beefing up to offset declining growth in legacy activities, generated $8.8 billion in revenue in the third quarter, for an 11% year-over-year increase. Third-quarter cloud revenue came in at $4.1 billion, for a 20% year-over-year increase.

Across all five of IBM’s main business segments, the company beat Wall Street’s expectations on revenue. Significantly, about 46% of IBM’s revenue in the third quarter derived from its strategic imperatives.

While most analysts bloviate about FANG stocks, IBM has been aggressively reinventing itself. The company has been shedding its legacy mainframe business and pivoting into new growth areas, such as big data, health care information management, the Internet of Things, and cloud computing.

IBM’s initiatives rival anything undertaken by the company’s ostensibly sexier rivals in the technology realm. The company is poised to be among the growth stock winners of this year and beyond.

Big Blue’s big bounce on Wednesday made it the Dow’s biggest gainer for the day. IBM previously had been oversold and a Dow laggard; despite the one-day price spike the stock remains a bargain.

This Day in History: Seward’s Folly

On October 18, 1867, the United States formally took possession of Alaska after purchasing the territory from Russia for $7.2 million.

The Alaska purchase encompassed 586,412 square miles, which means the purchase price came to less than two cents an acre.

The initiative was spearheaded by William Henry Seward, the expansion-minded Secretary of State under President Andrew Johnson.

Cash-hungry Russia was eager to jettison its Alaska territory, which was remote, frigid and sparsely populated. The majority of the American public held a dim view of the purchase, believing the territory to be a useless wasteland. The transaction was widely derided as “Seward’s Folly” and spawned considerable ridicule in the American press. Russia, meanwhile, thought it had taken America to the cleaners.

Most folks changed their minds, though, when gold was discovered in Alaska’s Klondike River in 1896, triggering a gold rush. Alaska became the 49th state in 1959 and it’s now recognized for its vast natural resources and scenic beauty. Alaska Day is a legal holiday in the state, observed every October 18.

The lesson is that visionaries with bold ideas are often scorned by the herd mentality. As an investor, always be wary of conventional wisdom and maintain a contrarian perspective. What initially seems like “folly” often turns out to be brilliantly far-sighted. As a real estate investment, Alaska was the value play of the century.

Number of the Day

The cyclically-adjusted price-to-earnings (CAPE) ratio, designed by Nobel laureate and Yale economics professor Robert Shiller, now stands at 31.

The CAPE ratio is defined as price divided by the average of 10 years of earnings (moving average), adjusted for inflation. As 31, the ratio’s current reading is 85% higher than the historical mean of 16.8.

In the words of legendary investment guru Sir John Templeton: “Bull markets are born on pessimism, grow on skepticism, mature on optimism and die on euphoria.”

In my October 19 market wrap, I’ll discuss the 30th anniversary of the market crash of 1987 and what it teaches us about market euphoria.

 


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