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Why I'm Looking at Biotechs, Not Airlines

Posted at 3:50 p.m. EDT on Wednesday, May 20, 2015

As a traveler, I love it when I can pit airlines against each other to get low fares. But as a shareholder, I am aghast because competition is the bane of profits, and the scourge of stocks as we found today when the transports, which got "taken to the woodshed" threatened to take down the entire market for most of the day.

Yep, today's horrendous trading action in the key transportation average can be defined by too much competition, mainly in the airlines. The transports can cast a long shadow, if not a pall, over the entire market as they did for most of the day until the Fed minutes, thankfully, were released at 2 p.m. that showed there are no plans for a rate hike next month.

The transports are often seen as excellent harbingers of commerce to come because if it isn't sold it ain't shipped.

Sometimes, though, they are a sign not of weakening trade but a symbol of potentially ruinous cutthroat competition and that's what's driving this glaring subset at this very moment.

What I didn't count on is that Mad Money is driving the dialogue that's causing the weakness in the group.

Specifically, last night Doug Parker, the always incredibly candid CEO of American Airlines  (AAL - Get Report), came on Mad Money and said that some of his competitors in the industry have decided to ramp up capacity to be able to take advantage of the health of the travel market. He admitted that these competitors are being too aggressive in adding routes and planes and that can lead to dogfights for customers. In particular, Delta's  (DAL - Get Report) gotten very bullish -- meaning too aggressive -- and that means trouble ahead for profitability.

As Parker said on Mad: "Some capacity is being added not by us but by some of our competitors and we will obviously respond to that." He added, "that's going to have a negative impact" on passenger revenue per available seat mile.

Gulp! Respond to lower fares by lowering fares himself. Negative impact on revenues per flier? Egads, that's the key metric!

That means earnings estimates are probably too high. That means that they have to be slashed. That means the stock's not as cheap as it looks. That means the forward price-to-earnings ratio may not be five, but much higher because the estimates are wild high. Ultimately, that means lower stock prices. Which is exactly what we got today. Oh Lordy.

Now, American Airlines is in the best shape it has ever been. It has a ton of cash. It can stand there and buy back stock. Pay down debt. Offer a big dividend. Parker's taking his pay in stock. If things were so bad, wouldn't he just take cash? And he points out "we're in a competitive business and we're good at it."

They sure are. How fabulous that will be when we travel.

But as a stock picker, I hate competition. In fact, the reason I was so bullish for so long on the airlines was because the combinations -- U.S. Air and American, United  (UAL - Get Report) and Continental, Northwest and Delta -- brought an end to ruinous competition and the beginning of the halcyon days of airline investing. Those days, apparently, are now over. That's not to say that at a certain point you can't buy them. It is to say that, though, that while flying is safer than ever those earnings estimates sure aren't!

Yep, when you hear "adding capacity" you know people are going to run for cover whether they should or not. And the opposite is also true, too.

Now all week I have been talking about the need to find industries where capacity is being taken out or there is no competition at all.

That's where the safe growth is. That's what we are looking for.

Who has that?

How about the biotechs?

One of the reasons why we like biotech so much on this show is because these companies tend to meet unmet needs with medicines that are protected from competition.

Which ones? How about Regeneron  (REGN - Get Report), which yesterday breached the $500 level, quite a journey from when we first recommended it at $5 a share when CEO Len Schleifer came on Mad Money as my inaugural guest. Today, the stock rocketed again because it is dawning on people that it not only has one blockbuster in Eylea, its macular degeneration wonder drug, but it will soon be offering a novel anti-cholesterol drug to be used in conjunction with others currently offered that could certainly be a blockbuster. I don't think the stock's done going higher.

Or there's United Therapeutics  (UTHR - Get Report), which I had on Mad Money just last night. That company, run by the brilliant Dr. Martine Rothblatt, who is also the founder, is the antithesis of American Airlines. There's no competition for the pulmonary hypertension products that United offers, and there are 30,000 people in the target population. The fact that she can charge $100,000 per person or more for some of their drugs is a testament to the lack of competition, although remember there are massive development costs to these specialize drugs. Still that stock's surge is, again, related to the story of singular drugs lacking competition that she told on the show.

The airlines, of course, aren't the only area where competition's tough because of too much capacity. Consider the retailers. Yesterday, we heard Home Depot  (HD - Get Report) tell a tale of tremendous numbers. But today we heard Lowe's  (LOW - Get Report) give a story that, frankly, was not up to snuff. Its comparable store sales were still admirable at plus 5% -- again the key metric -- but it definitely disappointed in a host of aisles, including power tools and plumbing where Home Depot did quite well.

Still, though, what that says to people is there's more competition than we would like in the big-box hardware space and that hammered the stock of Lowe's and kept Home Depot down for a second day.

But that doesn't mean all of retail is a battleground of unvanquished competitors. This morning, Target  (TGT - Get Report) reported and I have to tell you that this, the second largest retailer in the country, is a new Target, led by the super aggressive Brian Cornell. Target is pulling away from the competition, namely numero uno Wal-Mart  (WMT - Get Report), because it is returning to its roots, where you expect more and pay less. That's exactly why my charitable trust, Action Alerts PLUS, has made it a huge position and we wrote about it glowingly today.

For example, we keep hearing that apparel's weak everywhere. Hmm, Target called out strong apparel sales on its call. We keep learning about how expensive and profit-elusive the online business can be for the bricks and mortar companies. Target talked about how online had a meaningfully positive effect on the comparable sales number.

I liked everything I heard. 

Now this market's always looking for companies that aren't constrained by competition. That's why I have cherished the natural and organic space so much. There are only two pure plays and they don't shoot against each other, WhiteWave Foods  (WWAV) and Hain Celestial  (HAIN - Get Report).

It's why I like Netflix  (NFLX - Get Report), which is busy making deals at the Cannes Film festival, no doubt for new product that can make its entrance into China ever more powerful. I wish I were at the fest; I'd fit in perfectly.

It's why I am glad to see that Harman  (HAR) has started bouncing back because, despite what you hear about the competition, including Apple  (AAPL - Get Report), it does dominant the car infotainment industry.

And, of course, it is why I remain faithful to Apple, and urge that you hold on to this very inexpensive stock. I hammer that point home every chance I can get and made sure even the Phillie Phanatic got the message when I sat down with him last Saturday before I threw out that perfect strike of a first pitch, nicking that left-hand corner, before the hometown team vanquished the Diamondbacks.

Yep, if you are engaged in a dogfight for customers, the customers will win but your shareholders might lose. Much better to find companies that don't have to compete, or are protected from competition or have laid waste to the competitors on the way to dominance. Those are the companies with stocks we want to own and put away, at least until competition rears its bestial head as it just has in the once oh-so-tranquil, turbulence free airline business.

At the time of publication, Action Alerts PLUS, which Cramer co-manages as a charitable trust, was long AAPL, WWAV and TGT.

Household Formation Points to the Start of the Real Recovery

Posted at 7:23 a.m. EDT on Wednesday, May 20, 2015

You can't get real growth in retail unless you grow as a country. We can grow two ways: new, budding families, and immigration.

Both forms of growth have been weak ever since the Great Recession. Household formation has been abnormally weak because younger people are staying with their parents longer, including married young people, and are therefore less likely to have children and need to move out. Immigration's been running below the norm because the patchwork immigration process we have has kept more people from crossing our borders and allowed for much easier exportation.

Let me say at the outset I am not musing about immigration. Heaven knows there is enough written about that polarizing topic; you do not need me to wade in on it.

But the former, the lack of growth in the indigenous population, has been behind a lot of the problems the economy has had since the Great Recession; it's just hidden and not really talked about.

Except on the Home Depot  (HD - Get Report) conference call that is, chiefly when Carol Tome, the CFO, opines on the issue and puts it in the context of consumer spending at Home Depot, both on an absolute and on a relative basis.

She knows that household formation -- the departing from the parents and starting your own household in your own house -- is the key to the real growth of her industry and much of the growth of a spending society like we have in the U.S.

For many years, the country was in a decent balance. We had been growing households at a nice clip of more than about 1.3 million. That kind of formation can easily eat into single family housing starts of anything more than one million, which, until right before the Great Recession, was pretty much standard fare.

However, once the Great Recession started we began to get highly unusual household formations, a dramatic drop, sometimes to as low as just 400,000 to 500,000 a year. That's just not enough to spur a lot of growth for new housing units or even for the existing ones.

But now things seem to be coming back to normal and yesterday Home Depot flagged a plus one million number as one of the reasons why its numbers are getting stronger.

If the trend continues, Tome says, we could see a dramatic increase in growth for Home Depot, because if we just returned to trend line, there would be four million new households created rather quickly. That's because an astounding one-third of the 18-to-34 cohort are still living at home.

Now we don't know if this trend really is a trend. Warren Buffett famously talked about how hormones --the need to have children -- would get us back to normal. But that was three years ago and it didn't happen.

If it happened now, though, it could really make a difference to sales.

Household formations aren't the only things that drive retail sales. Employment matters. That's getting better. Growing salaries matter too, and that's not getting better. Credit matters, and, according to Tome, that's beginning to thaw, but, she says, "it seems to be thawing slowly, like a glacier melt."

But if more households are formed, then that puts a bid under the value of housing. If more people are more confident about their homes moving up in value, then they consider buying goods for their homes to be an investment - capitalized, so to speak -- not spending.

And that process is behind the better-than-expected numbers that Home Depot is seeing, particularly as people are starting to spend on bigger and bigger tickets and not just doing maintenance.

This trend is so important and yet so obscure that people don't realize the potential permanence of Home Depot's growth. As we get more and more households, we will get more and more investment in those households.

That's how you get a high single-digit increase in items that are, say, $900, like water heaters, that were called out on the call. It's also, though, how you get hard goods being favored over soft goods, because the soft goods have no tangible value to the home, as management pointed out.

Watch this household number. This is the rising tide. Initially it will pull up all home store boats. Ultimately, it will pull up all household spending and then the real, long-awaited recovery sans the Fed will at last begin.

At the time of publication, Action Alerts PLUS, which Cramer co-manages as a charitable trust, had no positions in the stocks mentioned.