Where to Invest: Stocks or CDs?

Ivanna Hampton: Here’s what’s ahead on this week’s Investing Insights. Broadcom delivered an impressive quarter. How AI is factoring into the company’s future. Plus, should you invest in the stock market or CDs? Morningstar’s director of personal finance Christine Benz weighs in. And three undervalued companies are earning praise for gender pay equity. Details on their mission. This is Investing Insights.

Welcome to Investing Insights. I’m your host, Ivanna Hampton. Let’s get started with a look at the Morningstar headlines.

Broadcom Riding AI Wave to Robust Networking Sales

Broadcom AVGO reported impressive fiscal first-quarter results. The chipmaker’s sales were just shy of $9 billion and up year over year. The results were in line with Morningstar’s expectations. Management expects second-quarter revenue to be similar. Broadcom’s advanced product portfolio has allowed it to maintain solid growth in the data center market, unlike some of its peers. The company’s networking, storage, and broadband business units have proved resilient. It’s shown impressive AI-related sales. Morningstar anticipates healthy spending in support of text-generation tools such as OpenAI’s ChatGPT. These AI systems use a variety of networking and custom products from Broadcom. That supports Morningstar’s analyst’s forecast for Broadcom’s networking segment to grow in 2023. Morningstar is raising its estimate of Broadcom’s stock worth by $16 to $640. That reflects an increased risk that its pending VMware acquisition may not close this year. European Union regulators are scrutinizing the deal.

Costco’s Relevance and Brand Strength

Costco COST is showing its resilience. The warehouse club’s second-quarter revenue of $55.3 billion grew. But revenue and operating margin fell short of Morningstar’s expectations. Costco’s annual revenue is expected to grow with operating margins sitting around 4% over 10 years. Big-ticket item sales declined during the quarter. Costco can better withstand pressures from inflation compared with other retailers. Its purchasing skill, focused product assortment, and private label brand, Kirkland, give it a competitive edge. The retailer’s membership-renewal rates set all-time highs. Morningstar thinks Costco shares are worth $476. With the stock trading around this price, now is not a great opportunity to buy.

Lilly’s Insulin Price Cut Follows Political Pressure

Eli Lilly’s LLY insulin price cut shouldn’t hurt its earnings and cash flow much because it was already offering diabetes patients big rebates. The drugmaker lowered insulin prices by 70%. It faced political pressure from the Biden administration in the State of the Union address and recent legislation. That likely influenced Lilly’s decision and so did confusing insurance system pricing practices. While the drug represents over 15% of total sales for Lilly, Morningstar doesn’t think the cut will hurt its cash flow much. That’s because the drugmaker and its rivals already rebate up to 80% of the total cost to patients. The company will have less room to rebate after the price cuts, so it is insurers who will likely lose out. Reducing prices on this controversial treatment may let Lilly maintain pricing on the newer drugs in its pipeline. Morningstar is sticking with its $289 estimate of what Lilly’s shares are worth.

3 Undervalued Stocks That Stress Equal Pay

Equal Pay Day falls on March 14 this year. It marks how long it takes women’s earnings to catch up with what men made the previous year. The U.S. Census Bureau reports it typically takes women of color even longer. Some companies are working to close the gender pay gap. Two members of Morningstar’s sustainability team have written about that. Product manager Allie McCallion and senior product manager Charity Blue are joining the podcast.

Hampton: Charity, you and Allie work on Morningstar’s Internal sustainability team. So, you all have some expertise on this topic. Can you quickly describe what the team does?

Charity Blue: Yes. And thank you so much for having us. As you said, Allie and I work on Morningstar’s internal enterprise sustainability team, where we manage the firm’s corporate sustainability strategy and public reporting function. So, we published the firm’s corporate sustainability report where gender and racial diversity, and the pay gap, is a huge topic within that. So, Allie and I were interested in exploring, in examining other corporations that have strong pay-equity programs.

Hampton: Let’s shift and talk about where women’s earnings in the U.S. stand compared to men. Allie, what are the numbers?

Allie McCallion: Currently in the U.S., women on average are making $0.82 for every dollar a man is earning, when looking at median income. This is even larger for Black and Hispanic women. And this is largely a reflection of unequal gender representation across higher-paying roles. Morningstar recently reported that it is still very rare for women to hold top leadership positions at firms, citing that only 6% of global companies have a female CEO. Unfortunately, we’re also finding that the pay gap has barely moved since the early 2000s, and it’s only closed by around 2% in the last 23 years. Also want to mention that studies have found that pay parity between men and women gets worse as age increases. So, we’re seeing that women in their mid-20s to early 30s are earning closer to parity than women in their late 30s to 40s.

Hampton: Allie, so what has research shown when companies practice pay equity?

McCallion: There’s been a lot of positive findings that have been found for companies who implement these pay-equity programs. Studies have shown that firms with strong diversity practices as well as these pay-equity programs, are citing reduced turnover and increased productivity, which is in turn driving revenue. On the flip side, however, employees who face discrimination at firms are more likely to leave their companies. A recent study in the tech industry found that nearly 40% of these underrepresented employees are saying that discrimination is their primary reason for leaving. So, this is coming at a huge cost. Not only to the company’s reputation, but a loss to profit potential.

Hampton: Charity, your team reviewed pay-equity practices among big U.S. companies. What did your team look for?

Blue: We started with Sustainalytics’ data where they examined the strength of pay-equity programs for companies that disclose this information. And then for those that were rated highly, Allie and I looked through those companies’ corporate sustainability reports. So, when we were looking at this publicly available information, we focused on two major topics. The first being transparency and then performance. With transparency being, how much are these companies disclosing and the scope of the disclosure. Does it include the entire employee base or a subset? And then also looking at, is the gender pay gap actually reducing over time? And are these companies setting forward-looking goals to continue their commitment to advancement in this area?

Hampton: You all have recently written an article that identified three stock picks. Let’s start with the company with the highest score, Allie.

McCallion: Sure. So American Express received the highest score total. As they have both exceedingly strong pay-equity performance and transparency in their reporting. Starting back in 2017, Amex began their annual pay-equity reviews. And then in their latest sustainability report, Amex has stated that it has closed the gender pay gap for the second year in a row. So, this is ensuring that a 100% of women are being paid equally for equal work. Amex in their report also has a public goal of maintaining this 100% pay parity across genders. And then in the U.S. marketplace across races and ethnicities moving forward. One other performance evaluation that Amex sets apart from its peers is their median pay gap. So, that’s looking at the salaries of men compared to women regardless of their role. At Amex in 2021, the median pay for companies’ female employees, globally was over 106% of the median pay for those male employees. So, this is really unusual for a firm of this industry, and it’s a signal that women are making up higher-paying roles than their male counterparts by a slight margin.

Hampton: Now the second stock pick is Citigroup C. Charity, what made the bank stand out?

Blue: Citigroup was actually the first bank to disclose its adjusted pay gap results back in 2019. And this figure, as Allie said, is examining equal pay for equal work, people in substantially similar roles. And then Citigroup was also one of the first U.S. companies to disclose their median pay gap for women and U.S. minorities. And as of early 2022 on that adjusted basis, women at Citi are paid about 99% of what men are paid. And there’s no significant difference in the pay differential between underrepresented minorities and nonminorities in the U.S. market. And part of their strategy is following this review, when they examine that 99% differential, they actually make pay adjustments and raise the pay of the affected individuals. So, they’re disclosing the data before they’ve fixed the problem and raising the pay of those deemed as underpaid. And it’s worth pointing out that Citigroup also fares exceedingly well on other Morningstar metrics where they earn a 5-star rating. And it’s also the most undervalued U.S. bank stock that Morningstar currently covers.

Hampton: And Adobe ADBE is rounding out the list. Allie, talk about this company’s equal pay efforts.

McCallion: Adobe achieved their global pay parody for women back in 2018 and then also achieved pay parody for underrepresented minorities in 2020. Also want to note that in 2021 they signed the California Equal Pay Pledge. Which is committing their firm not only to conducting these annual paid fairness reviews but also to reviewing practices in their hiring and promotion to advance equity among their colleagues. In their reporting, they’ve coined the term “opportunity parity,” which means the examination of fairness in their promotions and internal movement across demographics at their firm. With this, they’ve come up with a set of their own metrics for disclosure, which is really unique to Adobe’s sustainability reporting. And also works to advance the promotion of women and underrepresented minorities at their firm. Adobe also discloses a lot of ambitious goals related to gender equality. So, including achieving a 30% increase in women in leadership positions by 2025. These are things that really stuck out to our team. And one of the largest hurdles currently contributing to the wage gap in the U.S. is the lack of women in leadership in executive-level positions.

Hampton: Now all of you in the audience can find out how Morningstar’s performing in this area. Charity, what’s coming up later this month?

Blue: Great. Morningstar will be releasing our annual corporate sustainability report on March 31. And we’re particularly excited about our updated disclosure on the topic of our pay-equity program, because we’ve seen significant progress in this area. So, definitely look out for Morningstar’s sustainability report later this month.

Hampton: Thanks, Allie and Charity for joining me on Investing Insights.

Blue: Thanks for having us.

McCallion: Thank you.

Should You Buy Stocks or a 4% CD?

Hampton: CDs and other cashlike investments are paying higher. Some might be thinking they look like a better bet than the stock market. Here’s Morningstar Inc’s director of personal finance Christine Benz with Morningstar Inc’s investment specialist Susan Dziubinski.

Susan Dziubinski: Hi, I’m Susan Dziubinski with Morningstar. Higher yields on safe investments may have some investors debating whether they should venture into stocks or take the sure thing instead. Joining me to discuss that question today is Christine Benz. Christine is Morningstar’s director of personal finance and retirement planning.

Nice to see you, Christine.

Christine Benz: Hi, Susan. Good to see you.

Dziubinski: Let’s talk a little bit about the landscape for safe securities these days. How much better have yields gotten on cashlike and shorter-term securities over the past couple of years?

Benz: So much better. So, interest rates really bottomed in late 2020. Back in the fall of 2020, the 10-year Treasury bond was yielding well less than 1.00%, so 0.65%. And then by last fall, the 10-year Treasury was yielding 4.2%. So, just a huge difference, thanks to the Fed policy of increasing interest rates. Of course, we have had higher inflation during this period as well. Yields on shorter-term bonds have gotten even better. They’re higher than longer-term bond yields today. So, the six-month Treasury, for example, is yielding over 5% today. So, it’s hard to overstate what a seismic shift we’ve seen in the interest-rate landscape just in the space of a couple of years.

Dziubinski: Why is that happening, Christine? Why are we seeing that the short-term bonds have higher yields than the longer-term bonds? So, given that, why would anyone settle for a lower yield on a longer-term bond?

Benz: It’s a really good question, and this is what we’re talking about when we say that the yield curve is inverting. And the basic reason this is happening is that investors are looking into the future and saying, “Well, at some point, we think yields are probably going to decline.” And so, that 4.2% yield on a 10-year Treasury actually looks good relative to where it may go in the future. So, I’m going to lock in that higher yield, and I may even be able to pocket some capital appreciation. If yields indeed do go down, my old higher-yielding bond may be worth more. So, that’s the key reason that we’ve seen the longer-term bonds actually yield less during this period than the shorter-term bonds. With shorter-term bonds, investors are saying, “Well, I may have this higher yield today, but in six months or a year or whatever the term of the bond, I may be stuck with having to reinvest it at a lower yield at some point in the future.”

Dziubinski: Is that a good argument, then, Christine, for not investing a big share of your portfolio on something like CDs, the reinvestment risk if rates do go lower?

Benz: Well, I do think it’s a huge reason why you wouldn’t want to park your whole portfolio in CDs. Another huge risk for any fixed-rate investment, CD or a bond, is simply inflation risk, that you have your yield certainly and yields look a lot better, but inflation may gobble up every bit of that yield at today’s elevated prices. So, that’s the other key risk factor. That’s the reason why I would say investors should potentially park their near-term spending needs in CDs. Yields are certainly attractive, but then step out on the risk spectrum with their portfolio. So, venture into shorter-term bonds, venture into intermediate-term bonds and even stocks as a component of their portfolio. Even though you don’t have that benefit of that guaranteed yield, you do have that opportunity of long-term growth and the opportunity to outearn the inflation rate.

Dziubinski: Many investors are naturally worried a little bit probably about bond funds today, given the losses that they incurred last year. Is that a reason to favor individual bonds over bond funds?

Benz: Well, I’ve been hearing a lot about the attractions of individual bonds as a way to think about addressing spending needs. Especially, in retirement, there’s a lot to like about matching your spending needs with the maturity of a specific bond. But I would also say in a way the safety of individual bonds is a little bit illusory in that in a year like 2022, even if you’re holding that individual bond and you plan to hold it to maturity, if you looked up its price, its price probably saw a little bit of a bobble during that period. So, there’s that issue. And then, the bigger issue in my mind is simply that smaller investors may have difficulty adequately diversifying using individual bonds. They may have difficulty finding exposures across credit qualities, across interest-rate sensitivities. And by the time they do that, and they build that portfolio that’s adequately diversified, they probably end up with something that is looking a lot like a bond fund and yet they’re not a professional bond fund manager. So, I think that for many investors, using bond funds makes a lot of sense because it gives you that all-in-one diversification. It gives you that professional management, and you can get it at a very low fee. But you do have to be willing to put up with periodic bobbles in principal value like we saw last year.

Dziubinski: Let’s talk a little bit about stocks, Christine. What role do stocks play in an environment like the current one we’re experiencing, given the return prospects for bonds are so much better than they were just a few years ago?

Benz: Right. It’s certainly a reason to not overlook bonds. I think everyone hates bonds right now. Investors have seen bonds be pummeled over the past year and they worry that there are even more interest-rate increases to come so that bond prices may not be stable from here. But I think it’s possible to overdue bonds as well because you do need that appreciation potential that comes along with stocks. You need the opportunity to outearn inflation. So, I like the idea of investors holding enough cash and bonds to meet perhaps the next decade’s worth of spending needs. So, for people who are in retirement, if they’re kind of building a runway in their portfolio, think about having cash, short and intermediate-term bonds, potentially inflation-protected bonds to meet that next 10 years’ worth of cash flow demands that you’ll be placing on your portfolio. But from there you want your portfolio to grow. And so, I would hold any overage in stocks. I think that’s a good way to back into a situation-appropriate asset allocation. And I would also mention, Susan, and you certainly focus on this a lot in your job, we know that stocks are still pretty attractively valued, too, that even though stocks have recovered a little bit so far in 2023, they have been pretty well beaten down. And so, there’s arguably much better upside potential for stock investors today than there was even a year ago.

Dziubinski: Well, Christine, thank you for your thoughtful insights into how we should be thinking about our cash, bond, and stock buckets today. We appreciate it.

Benz: Thank you so much, Susan.

Dziubinski: I’m Susan Dziubinski with Morningstar. Thanks for tuning in.

Hampton: Thanks Christine and Susan. Subscribe to Morningstar’s YouTube channel to see new videos about market news, personal finance, and investment picks. Thanks to podcast producer Jake Vankersen. And thank you for tuning into Investing Insights.

I’m Ivanna Hampton, a senior multimedia editor at Morningstar. Take care.

Read About Topics From This Episode

Broadcom Riding AI Wave to Robust Networking Sales in 2023; Raising FVE to $640 Per Share

Costco’s Resilience Proves Its Ongoing Relevance and Brand Strength; Shares Fairly Valued

Eli Lilly’s Insulin Price Cut Should Address Government’s Critical Eye, but No Impact on FVE

3 Stocks That Stress Equal Pay as We Observe International Women’s Day