Buying shares of a stock on weakness can prove to be a successful portfolio management strategy. Price weakness is not always a bad thing. In fact, at times, it can be welcomed, representing an opportunity to buy a solid company at a discount or bargain price. A key objective is to determine whether price weakness is indeed a buying opportunity.
So, what do you do when you see a stock price tumble or steadily fall day after day? First, you research and assess; you don't react until you gather all the facts. Determine why the share price is falling. If the entire market is falling, the price weakness is understandable. However, if price weakness is specific to a particular stock, start your research by looking at the company's website and check for any news releases. Also check to see whether there are any analyst downgrades or negative reports released.
In addition, consider the stock's trading volume. If the share price is under pressure, this decline may simply reflect low liquidity if the stock is thinly traded. If the stock is tied to a commodity, a falling commodity price could also be the culprit. Until you have determined the cause, you can't make an informed investment decision.
Once you have determined the reason for the price weakness, ask yourself whether this may be a long-term overhang for the stock, or if it may be transitory. If it appears to be a longer-term headwind, the stock may turn out to be a value trap, one in which you are waiting for months or even years to see the share price appreciate. Consider passing on this investment. For instance, when there is an operational issue and management states that it will take two or three quarters to address, well, it typically takes longer. In addition, there is what I call the "cockroach theory"- that is, when you see one cockroach, you can bet there are more. The same idea can apply to evaluating a company: when one operational issue surfaces, more may follow. For that reason, I recommend investors wait to buy shares of a stock until there is evidence that a challenge has been resolved. Yes, by waiting, you may forgo some upside, but it can help reduce downside risk.
Now, if you determine the recent share-price weakness is because of short-term challenges - perhaps it is just a one-quarter phenomenon - you may decide to go ahead and purchase a security. If so, I recommend accumulating shares with a staggered approach, not all at once, as market volatility may allow you to purchase the stock at a lower price down the road. Furthermore, I never believe in trying to catch a falling knife, so wait for the share price to stabilize, for all the sellers to exit, before stepping in and purchasing shares.
Listed below are securities that have come under pressure in recent weeks and months, and these declines may prove to be good entry points for long-term investors.
Hydro One Ltd.
Interest-sensitive utilities stocks such as Hydro One have been under pressure. This stock offers investors has two attractive attributes: steady growth and dependable income. The company is a dominant player in the Ontario electric transmission and distribution businesses. Its operations are rate-regulated, representing 99 per cent of total revenue, providing the company with high earnings visibility and reliability. The company's earnings are growing at steady pace. Looking out to 2020, the rate base is forecast to grow at a compound annual growth rate of 4.9 per cent. The dividend yield of 3.4 per cent is attractive, with room to expand the quarterly dividend given the conservative payout ratio. The low $24 price level looks like an attractive entry point.
Milestone Apartments REIT
Real estate investment trusts have also pulled back with interest rates headed higher. However, for investors seeking yield in a low-interest-rate environment, the rental market is a preferred segment within this sector. Milestone operates in this relatively defensive market. The REIT has a high occupancy rate at 95 per cent, continues to capture rental increases, has funds from operations growth, and offers unitholders a sustainable 4-per-cent distribution yield given the low payout ratio. We could see the unit price revisit the $18 level, if so, this is a stock to consider buying.
New Flyer Industries Inc.
Shares of New Flyer have come under pressure after management trimmed its revenue growth forecast for its aftermarket parts business to no growth from its previous guidance of 5 per cent last week. According to management, "the increase in new bus and coach sales in recent years leading to increased fleet replacement has had a short term dampening effect on the aftermarket parts business." This pullback has reduced the stock's valuation to a more compelling level, trading at an enterprise value-to-EBITDA multiple in line with its three-year historical average. The company continue to generate healthy revenue and earnings growth. The company's dividend appears safe with the current dividend yield at approximately 2.5 per cent. The shares remain under pressure and could drift down to between $35 and $37, an attractive level from a valuation perspective.
As always, I strongly encourage readers to consult a financial adviser, and to do their own proper due diligence before taking any investment action.
Wed, 26 Oct 2016 17:18 EDT