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Friday Five: After Rollback, Wal-Mart Shares Look Cheap

Christine Benz
Jeremy Glaser

Christine Benz: Hi, I'm Christine Benz for Morningstar.com. Welcome to The Friday Five. Joining me to discuss some notable market news from the past week is Morningstar markets editor Jeremy Glaser.

Jeremy, thank you for being here.

Jeremy Glaser: You're welcome, Christine.

Benz: One of the big headlines from the past week in the market was Walmart releasing its earnings. It wasn't a pretty picture, and the market didn't take the news especially well.

Glaser: The market decided to roll back Walmart's stock price a little bit this week. A lot of things were not particularly comforting in this earnings release. There was continued weakness at Sam's Club and their international operations. Their e-commerce grew but maybe not at the clip that people had hoped given how much they have been investing in it. They also did cut their sales guidance based on the strong currency and based on some of the stores that they are closing. Those closings had been previously announced. Due to that, we did see the stock price come down.

But Ken Perkins, our Walmart analyst, thinks a lot of these short-term fears are a little bit overblown and that the long-term thesis for Walmart is still very much intact. He thinks it represents a pretty attractive opportunity for investors right now. He thinks the risk-reward is very much in investors' favor.

He thinks they will be able to leverage some sales growth in the U.S., which they still are seeing, into better profitability. When part of this investment phase, and the higher wages that we've talked about, and also investment in their e-commerce--once those start to roll off a little bit, they'll see better profitability. But right now, there is not much growth priced into the shares. You don't need to expect things to become radically better in order to get a good long-term return. You really are just looking for stabilization, and anything above that is really gravy for you. He thinks that's a pretty attractive proposition in today's market and still sees the shares as undervalued.

Benz: I know historically we had it as a wide-moat retailer, and a wide moat is hard to earn in the retailing space. Does it still hang on to that wide-moat rating?

Glaser: It still does, and a lot of that is due to its competitive advantages in terms of the scale it has, the buying power, and the brand that it still does command. The brand intangibles really do help it keep its competitive advantage.

Benz: The Fed released the minutes from its January meeting this week. Let's discuss what you saw when you read through those minutes.

Glaser: It does seem like the likelihood of a March rate hike has decreased--if maybe not quite to zero, virtually to zero. In the minutes, they did say that they are seeing even more uncertainty. This was in January, so obviously we've had some time since then. They were concerned that inflation wasn't going to come up to their 2% target as quickly as they had expected. That's what they are focused on now with the labor market looking pretty good, and they don't see signs that they need to raise rates right now. Given the uncertainty, maybe they feel like it's prudent not to.

I think this was, in some ways, part of the plan all along. I think they had obviously wished to have more rate increases in 2016, but one of the reasons they started so early, before there were severe inflationary pressures, was so they could take a wait-and-see approach, and they wouldn't be forced into very quick increases if inflation were to rear its head, which is something they thought could be very detrimental to the economy. So this is really more of the same, and it amounts to an outlook of very slow rate increases over time.

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For investors, there isn't a lot they need to change. There isn't a lot they need to rethink because of this. Like we said, it didn't matter exactly what month they began to raise rates. It still doesn't matter exactly what meeting they decide to raise rates again. I think the overall outlook of the U.S. economy is doing OK. Inflation will eventually get back there. They do want to raise rates over the long term, but very slowly. I think that's still very much on the Fed's mind and what is the most likely outcome.

Benz: One sign that the U.S. economy is doing OK was visible in some industrial production numbers that were released this past week.

Glaser: These numbers were pretty good, up 0.9% on a headline basis--that's month-to-month. I talked to Bob Johnson about it this week as well. He pointed out that this was driven not only by utilities, which were up because the weather was colder. That's not really necessarily sound proof of economic strength.

But manufacturing was up 0.5%, around there. That's pretty good given that it was driven by autos, by chemicals, by food, by things that really are driven by domestic consumption. Manufacturing isn't getting as hammered by the strong dollar as lot of people thought it might. Even mining was flat. This is something that's been down considerably with all the issues in oil. To see that not detracting anything is a good sign.

So industrial production showed a nice rebound, and retail sales data looked pretty good. When you add it all up, it does seem like the economy is doing OK. There isn't a sign that we're heading toward recession or we're getting a lot of contagion from what's happening in China into the U.S. economy right now. After that slowdown in fourth-quarter GDP, there were some concerns, but it's now clear that a lot of that was probably just statistical noise or weather-related and weren't a real weakness in the U.S. economy. We just haven't seen that yet.

Benz: Priceline released its earnings this week. There was some trepidation coming into Priceline's earnings. How did they come out?

Glaser: Priceline has a lot of exposure to Europe and to European hotels through their Booking.com portal. There were a lot of concerns that the terrorist attacks in Paris were going to take a big hunk of bookings out of that, and it did have an impact, management said so.

But if you look at it on a constant-currency basis, international bookings were actually up 29%, and that's an acceleration from the growth rate we saw in the third quarter and it's above the guidance. Things seem to have bounced back very rapidly from these attacks. It seems like it didn't have a sustainable weight on their business and on the travel throughout Europe. We've heard similar comments from other travel providers as well. That's a good sign. Also, they said that the first-quarter trends were looking pretty good, too.

Taken all together, even with the rise in Priceline's stock price after this announcement, we still think the shares look pretty attractive and think it's an interesting idea for investors to take a closer look at.

Benz: The last news item you want to discuss is signs of life in the private-equity market.

Glaser: Security system company ADT, which spun off from Tyco years ago, agreed to be bought for about $7 billion by private-equity firm Apollo Global Management. There are couple of interesting things here. It was a big premium, over 50%, to where the stock was trading. Part of that might be driven by the fact that Apollo already has a security business. There are some synergies; they are going to combine those two. So maybe that helped drive the price up a little bit.

I think more interesting, as you mentioned, is that this is showing there are signs of life in private equity and the capital markets. Even with the uncertainty that we talked about earlier, even with the market volatility, there are still people who want to get these larger-sized deals done, and they are finding ways to get them done. I think that's a healthy sign.

Benz: Jeremy, thank you for being here to share your insights.

Glaser: You're welcome Christine.

Benz: Thanks for watching. I'm Christine Benz for Morningstar.com.