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This Just In: Upgrades and Downgrades

At The Motley Fool, we poke plenty of fun at Wall Street analysts and their endless cycle of upgrades, downgrades, and "initiating coverage at neutral." Today, we'll show you whether those bigwigs actually know what they're talking about. To help, we've enlisted Motley Fool CAPS to track the long-term performance of Wall Street's best and worst.

Machinery? Meet monkey wrench
America's big machinery makers are having a rough time of things this week. Hard on the heels of an underwhelming Institute for Supply Management report, the Commerce Department just announced that factory orders fell 0.6% in April, which was worse than expected. Yesterday, shares of General Electric (NYSE: GE  ) , Caterpillar (NYSE: CAT  ) , and Cummins (NYSE: CMI  ) all lost more than 2%, and got hurt a lot worse than the average stock on the Dow, which gave up a mere 0.14%.

Adding to the pain -- for one of these unfavored three -- was the fact that Wells Fargo poured salt in the wound that the Commerce report had opened. Warning of impending "NAFTA truck industry production cuts" and opining that it sees little chance "of a developing market reacceleration in the short-term," Wells downgraded Cummins to market perform on Monday, and slashed its price target on the stock by 25%, to roughly $100 a share.

Meanwhile, Wells warns that earnings warnings and downgrades from other analysts may be in the works. If this comes to pass, it could "present headwinds for stock price appreciation."

Cummins: Stuck in idle?
And yet, all's not quite as bleak as Wells makes it sound. For one thing, a $100 price target still anticipates the chance that Cummins shares (now at $91 and change) could gain 9% over the next 12 months. Add Cummins' 1.7% dividend yield, and that still makes for a tidy profit.

And really, why wouldn't the shares gain? After all, from a valuation perspective, Cummins hardly looks expensive. The shares trade for a modest nine times trailing earnings, and are even cheaper on a forward P/E basis (much lower than the average P/E on the S&P 500). Viewed more conservatively, and valued on its free cash flow rather than its more aggressive GAAP earnings, Cummins still looks fairly priced -- or even cheap -- at 13 times FCF coupled with a growth rate of 13%.

Two other ideas
That said, some investors will be spooked by Wells Fargo abandoning Cummins. I get that. If you're looking for an antidote to the pessimism coming out of Commerce and the ISM, therefore, consider the report that the Federal Reserve Bank of Chicago just released… and its implications for an investment in General Motors (NYSE: GM  ) or Ford (NYSE: F  ) .

According to the Chicago Fed, U.S. auto sales are expected to climb to 14.5 million units this year. What's more, they'll remain strong, rising to 15 million cars and light trucks sold in 2013. This would seem to contradict reports of weaker sales earlier this year, which the Chicago Fed ascribed to "production bottlenecks" originating in the wake of the Japanese tsunami last year.

Foolish takeaway
If bad news from Commerce and ISM have you worried about American stocks, and even the 7.8 forward P/E ratio at Cummins isn't low enough to convince you that the worrywarts are overreacting, then perhaps the forward P/E at Ford (5.9) will allay your concerns. And if you're really looking for proof that valuations have become well and truly ridiculous, then the 4.7 forward P/E at General Motors should put any doubts to rest.

These manufacturing stocks tend to be, of course, highly cyclical. If you're looking for a great high-growth stock in a different sector, check out our special free report: "The Motley Fool's Top Stock for 2012." It highlights a company that is revolutionizing commerce in Latin America. You can get instant access to the name of this company by clicking here -- it's absolutely free.

As Crazy Eddie himself might say, these prices are so low, they're practically giving the companies away.

Fool contributor Rich Smith does not own shares of, or short, any company named above. You can find him on CAPS, publicly pontificating under the handle TMFDitty, where he's currently ranked No. 320 out of more than 180,000 members. The Motley Fool has a disclosure policy.

The Motley Fool owns shares of Ford Motor and Wells Fargo. Motley Fool newsletter services have recommended buying shares of Ford Motor, Cummins, Wells Fargo, and General Motors, as well as creating a synthetic long position in Ford Motor. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.

Read/Post Comments (1) | Recommend This Article (5)

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  • Report this Comment On June 05, 2012, at 6:33 PM, MARKETSURFER wrote:

    What qualifies Wells Fargo to properly upgrade or downgrade anything ?? Wells Fargo is a bank, the least reliable source for any opinion that is unbiased and the surest source for opinions that are self-serving. Do we forget so quickly the criminal nature of the banking system and their analysts ??

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