I follow quite a lot of companies, so the usefulness of a watchlist to me cannot be overstated. Without my watchlist, I'd be unable to keep up on my favorite sectors and see what's really moving the market. Even worse, I'd be lost when the time came to choose which stock I'm buying or shorting next.
Today is Watchlist Wednesday, so I'm discussing three companies that have crossed my radar in the past week -- and at what point I may consider taking action on these calls with my own money. Keep in mind that these aren't concrete buy or sell recommendations, nor do I guarantee I'll take action on the companies being discussed. What I can promise is that you can follow my real-life transactions through my profile and that I, like everyone else here at The Motley Fool, will continue to hold the integrity of our disclosure policy in the highest regard.
Kansas City Life Insurance (NASDAQ:KCLI)
I'll freely admit that life insurers are hardly what I'd refer to as exciting research material, but I wasn't kidding when I first took a closer look at Kansas City Life Insurance in 2011 that this could be one of the biggest bargains in the sector.
Kansas City Life's second-quarter results were a somewhat mixed bag. On the bright side, total new deposits saw a 23% increase, net premiums rose by a modest 2%, and EPS increased to $0.98 compared to $0.78 in the year-ago period. The thesis here is that if the company is underwriting more policies, as long as it isn't paying out more in benefits collection or annuities, its income should rise.
On the other hand, net investment income continues to be weighed down by record-low lending rates. The Federal Reserve's attempt to artificially keep rates low hurts insurers like Kansas City Life, which conservatively invest their cash in U.S. Treasuries, corporate bonds, and other often investment-grade instruments.
Where the opportunity comes in for shareholders here is Kansas City Life's investment portfolio. As soon as the Fed does begin paring back its monthly bond-buying program, interest rates should begin a slow march toward normalized levels. Higher interest rates will compound quickly in Kansas City's yield-based portfolio and could result in surprisingly robust profits for the insurer.
Another oft-overlooked factor is that insurers are money-making machines. They price their product based on market conditions and can utilize the justification of a catastrophe (in the case of property and casualty insurers) or a change in a mortality trends as a reason to raise premiums. With a consistent history of profits, no debt, and a book value of $66.09 per share (placing the company at just 65% of its current book value), I'd have to think that this stock should be consistently popping up on value investors' radars.
It's certainly been a few quarters since I've had skepticism about the Gap's ongoing turnaround, but consider me back in the pessimists camp again as back-to-school season rolls around.
The Gap reported second-quarter results last week which were moderately ahead of Wall Street's estimates for a second consecutive quarter. Comparable-store sales for the quarter edged up 5% compared to the 4% rise last year with its flagship Gap stores delivering the biggest rise of 6%. But, three factors give me ongoing cause for concern, which should make current investors think twice about buying Gap shares here.
First, Old Navy will likely continue to be an ongoing drag for Gap. I honestly can't remember the last time its Old Navy brand produced consistent momentum, or when its advertising campaign produced meaningful growth. Sure it delivered 6% same-store growth in the second quarter, but historically this brand has been more of a bust than a boom. I would love nothing more than to see Gap completely jettison this brand if it all possible because it has the potential to weigh down comparable-sales results going forward.
Second, I suspect consumer spending during this back-to-school season is going to be the most challenged we've witnessed since 2009. The payroll tax holiday has ended and many families are preparing for the implementation of the individual mandate portion of the Patient Protection and Affordable Care Act in January that will require everyone to have health insurance or face a penalty. Lower take-home pay from these two factors will almost certainly affect purchasing power and could result in fewer visits to the mall, where the majority of Gap's flagship stores are located.
Finally, I'm not a huge fan of utilizing insider transactions to determine my course of action, but it's tough to deny the fact that there have been 22 insider sells and zero insider buys over the past six months. Directors are the front line of hope for investors, and their sell signals are a possible indication that some see Gap as fully valued here.
Discover Financial Services (NYSE:DFS)
When interest rates do begin to rise, there are few better places to be as an investor than the credit services sector. Discover Financial and many of its peers stand to benefit in a number of ways.
To begin with, all payment processors -- from Discover Financial to Visa (NYSE:V) and MasterCard -- are seeing a boost from increased credit transaction volume in the U.S. and overseas. Visa, for example, sees 40% of its payment volume come exclusively from the U.S. With a majority of the world's transactions still being conducted in cash, and the prepaid card market still in its infancy, there's plenty of room for all three companies to see a big bottom-line boost.
Rising interest rates also help credit companies that lend earn more between what they're able to borrow at and what they're able to lend at – known better as net interest margin. This is the one scenario where Visa and MasterCard, which act solely as payment processors and not lenders, will take a backseat in growth to Discover, whose lending division will reap the rewards of higher interest rates. Being able to double-dip on processing and lending in a higher lending rate environment should allow Discover's growth to potentially outpace Visa and MasterCard -- and it also doesn't hurt that credit card delinquencies are near an all-time record low.
Following Discover's impressive run higher, the stock is still only valued at 10 times forward earnings and pays out a sector-leading 1.6% yield. I believe it could still have room to run and should be added to your watchlist.
Is my bullishness or bearishness misplaced? Share your thoughts in the comment section below, and consider following my cue by using these links to add these companies to your free, personalized watchlist to keep up on the latest news with each company:
Fool contributor Sean Williams has no material interest in any companies mentioned in this article. You can follow him on CAPS under the screen name TMFUltraLong, track every pick he makes under the screen name TrackUltraLong, and check him out on Twitter, where he goes by the handle @TMFUltraLong.
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