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Cramer’s final thoughts for the year: Making sense of multiples amid a looming recession

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1 year ago

December 30, 2022

The price-to-earnings multiples say recession. But the multiples said similar things in 2022. So how long can the multiples stay this low? We have all read dozens of articles about what 2023 will bring us. I think most are sincere. Their only drawback, as usual, is that they don’t touch on stocks themselves. They might say that the S & P 500 , currently trading at 18-times earnings, could trade down to 16-times earnings even if earnings stay relatively steady. Or, they could say that if the terminal rate is 5% on the Federal’s Reserve’s fed funds rate , we might get to 14-times earnings. But these analyses don’t tell you how they got to that S & P target. So, I want to attack the S & P target thesis by looking at a few stocks that signal the uselessness of the projections. Let’s start with two stocks: Johnson & Johnson (JNJ) and Nucor (NUE). Pharmaceuticals giant J & J, one of my favorites in the Club portfolio, trades at 18-times forward earnings for 2023. And I think that reflects a recession is coming, given that its earnings should not be hurt by a slowdown. If we get a recession, then the stock will trade higher, not lower, as a recession would likely signal the end of the Fed’s interest rate hikes. Now let’s take Nucor, the world’s finest steel maker. It is projected to earn $28 a share this year and then drop to $12 a share next year, as a likely recession takes hold. I have a hard time with the 4-times earnings it currently trades at, but it’s obvious that the stock market is setting up for a serious recession that would cause Nucor to have its earnings more than halved. But where do those earnings come from? The largest earnings sector will be infrastructure which, rather than take a hit, should go higher given fresh federal government spending kicks in next year. That infrastructure spending includes everything from bridges and tunnels to buildings, which Nucor dominates. Then Nucor also has heavy oil-and-gas exposure through its pipeline and heavy-equipment businesses. At the same time, industrial Caterpillar (CAT) sells at 18-times earnings because of demand. That mocks Nucor’s 4-times. With those end-markets and with CAT’s dramatically higher multiple, something has to give. Something is wrong. I think it’s Nucor’s earnings estimates for 2023 — they are too low. My point being is that you have the most cyclical stocks trading as if they are falling apart, but the heavier equipment traditional cyclicals trading not just higher, but much higher. My conclusion is that JNJ is “right” in what it sells at, Caterpillar and the like are most likely slightly wrong— too high, but still in the mix —and Nucor and the like are just dead wrong. So why aren’t we buying Nucor? Because I think it can go lower. Meanwhile, the automobile sector looms large, and auto is considered to be something that will plunge next year as demand abates. I think the market is making a serious misjudgment on that thesis. People have held off buying because cars and trucks are unnaturally too high, due to supply constraints and higher interest rates. Ultimately, I think autos will stay strong in a recession. Therefore, the best compromise is Ford (F), which should, barring still one more supply shock from China, make the most sense. We added to our position in Ford on Thursday. Still, all things considered let me make one more point: If a Caterpillar or a Deere (DE) were to come down to lower levels, it would make a great deal of sense to buy. One more quandary: Aerospace. A recession should dry up airplane demand, but replacement is critical. Club holding Honeywell (HON), which makes cockpits and airplane engines, sells at 24-times earnings, while Raytheon Technologies (RTX) clocks in at 21-times earnings. The latter is most likely undervalued as a result of Russia’s war in Ukraine. Are these justifiable? They are the highest multiples in the entire market, including Club holdings Apple (APPL) and Alphabet (GOOGL). It could all meet in the middle. I see some shrinking of the large caps. Semiconductors are a moving, albeit diminishing target, with the exception of outlier Nvdia (NVDA) at 44-times earnings, which is now a small Club position because of its vulnerability. All but the fastest-growing companies could trade at around 16-17-times earnings. That’s going to be our broad assumption for next year — a mix of soft goods with higher multiples and cyclicals with lower ones. The debatable stocks are in tech, which are poised to disappoint even if a so-called clearing event should ultimately come about. (See here for a full list of the stocks in Jim Cramer’s Charitable Trust.) As a subscriber to the CNBC Investing Club with Jim Cramer, you will receive a trade alert before Jim makes a trade. Jim waits 45 minutes after sending a trade alert before buying or selling a stock in his charitable trust’s portfolio. If Jim has talked about a stock on CNBC TV, he waits 72 hours after issuing the trade alert before executing the trade. THE ABOVE INVESTING CLUB INFORMATION IS SUBJECT TO OUR TERMS AND CONDITIONS AND PRIVACY POLICY , TOGETHER WITH OUR DISCLAIMER . NO FIDUCIARY OBLIGATION OR DUTY EXISTS, OR IS CREATED, BY VIRTUE OF YOUR RECEIPT OF ANY INFORMATION PROVIDED IN CONNECTION WITH THE INVESTING CLUB. NO SPECIFIC OUTCOME OR PROFIT IS GUARANTEED.

Bundles of steel from Nucor Corp. sit for sale to at Thompson Building Materials in Lomita, California, U.S., on Thursday, Aug. 30, 2012.

Patrick Fallon | Bloomberg | Getty Images

The price-to-earnings multiples say recession. But the multiples said similar things in 2022. So how long can the multiples stay this low?

Source: CNBC

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