We recently compiled a list of the 10 Cheap and High-Quality Stocks Picked by Former SAC Capital Analyst. In this article, we are going to take a look at where CME Group Inc. (NASDAQ:CME) stands against the other cheap and high-quality stocks.
Jonathan Tepper, the chief investment officer of little-known hedge fund Prevatt Capital, has an interesting approach towards investing. Tepper, whose stock picks generally focus on quality and value of firms, believes that investors would be better served learning about the modern history of finance, as it relates to the rise and fall of big businesses as well as financial meltdowns, instead of being bogged down by economic theory based on mathematics that might not play out in the real world as it does in books. Tepper leads Prevatt Capital which had a 13F stock portfolio worth more than $296 million at the end of the first quarter of 2024.
Tepper is the author of The Myth of Capitalism, a book that dives deep into the public policy surrounding industrial concentration in the United States and the rise of powerful monopolies. Tepper, in a recent appearance on Capital Allocators with Ted Seides, a finance podcast, underlined that his investing thesis was based on his studies about powerful monopolies that were owned by investors he admired. Tepper noticed how a lot of these monopolies were businesses that, if they did not exist, somebody would have to invent them. He remarked that he thus learned to invest in firms that had a natural reason for existing.
His comments can be seen in action if we look at the latest financial disclosures of his hedge fund. More than 60% of the stock portfolio of Prevatt Capital is concentrated in the consumer goods and services sectors. Tepper has doubled down on many of his long bets, increasing stakes in four of the top ten stocks in the portfolio of Prevatt Capital during the first quarter of 2024. The total value of the 13F portfolio has increased by more than $25 million in the first three months of the year due to this buying activity, compared to the previous quarter. His top ten holdings comprise nearly 80% of the total portfolio.
There are several reasons why Tepper prefers the value-based long term investing approach of his mentors to create wealth, as opposed to the shorting strategy adopted by many other hedge fund managers on Wall Street. Some of the reasons include short squeezes, lots of hype around new firms, high borrowing costs, and several funds shorting the same firms. In contrast, a value-based approach creates wealth at a healthy pace and avoids permanent loss of capital or significant drawdowns. Buying quality firms also comes with the added benefit of strong cash flows, steady dividend payouts, and thoughtful share buybacks to increase value.
Our Methodology
For this article, we scanned the stock portfolio of Prevatt Capital according to the 13F filings submitted at the end of the first quarter of 2024. We selected the top 10 stocks from this portfolio. Why are we interested in the stocks that hedge funds pile into? The reason is simple: our research has shown that we can outperform the market by imitating the top stock picks of the best hedge funds. Our quarterly newsletter’s strategy selects 14 small-cap and large-cap stocks every quarter and has returned 275% since May 2014, beating its benchmark by 150 percentage points (see more details here).
A businessman in the foreground shaking hands with a colleague in a trading floor.
CME Group Inc. (NASDAQ:CME)
Number of Hedge Fund Holders: 60
Prevatt Capital’s Stake: $23,681,900
CME Group Inc. (NASDAQ:CME) is featured in fifth place on our list of top stock picks of Prevatt Capital. The firm owns and runs a derivatives marketplace. CME Group Inc. (NASDAQ:CME) represents nearly 8% of the total stock portfolio of Prevatt. The hedge fund first bought stakes in the firm during the last three months of 2024. No changes were made to this stake in the first three months of the new year. CME Group Inc. (NASDAQ:CME) is an industry-leading brand with consistent earnings growth, yet it has a Price-to-Earnings (PE) ratio of only 24, placing it firmly among the top value stocks in the derivatives world.
CME Group Inc. (NASDAQ:CME) is also an efficiently-run company. It has an EBITDA margin of 65% and a ROE of nearly 10%. The dividend yield of the stock is also impressive at around 2.6%. In addition to these numbers, the financial health of the stock is evidenced by positive free cash flows, positive operating income, positive net income, and exceptional revenue growth figures over the past three years. Many analysts on Wall Street expect investors to wake up to these realities, forecasting a steady rise in the stock’s price in the next twelve months. The average price target on Wall Street for the stock is $232.
In its Q1 2024 investor letter, Cooper Investors, an asset management firm, highlighted a few stocks and CME Group Inc. (NASDAQ:CME) was one of them. Here is what the fund said:
“A company that welcomes uncertainty is CME Group Inc. (NASDAQ:CME), a Stalwart in which we recently reinitiated a position, having successfully invested historically. Value latency has re-emerged with the shares materially underperforming over the last five years.
As the largest derivatives exchange globally, CME offers leading liquidity pools to risk managers across multiple asset classes including equities, interest rates, FX, energy and agricultural commodities. The management culture at CME exemplifies the pragmatic, no-nonsense Midwest attitude that we admire of Chicagoans – no coincidence that the portfolio owns five Chicago-based companies today. This was reinforced in a recent meeting with newly appointed CFO Lynne Fitzpatrick. CME know what they are and what they’re not, with a solid track record throughout market fads and blow-ups. The story of CEO Terry Duffy calling out Sam Bankman-Fried as ‘an absolute fraud’ (at the time he was lauded across the land as a visionary genius) is one recent example of their nose for risk.
We see several avenues for CME to grow earnings and cash flows today, irrespective of market volatility, as well as continuing to pay a special dividend implying a yield of ~4-5%. The business rarely changes hands as cheaply as it does today, trading at an average market multiple versus typically trading at a 30-60% premium. With this business routinely generating over 50% returns on invested capital and carrying no debt today, CME is far from an average business.”
Overall CME ranks 5th on our list of the cheap and high-quality stocks picked by former SAC Capital Analyst Jonathan Tepper. You can visit 10 Cheap and High-Quality Stocks Picked by Former SAC Capital Analyst to see the other cheap and high-quality stocks that are on hedge funds’ radar. While we acknowledge the potential of CME as an investment, our conviction lies in the belief that AI stocks hold greater promise for delivering higher returns, and doing so within a shorter timeframe. If you are looking for an AI stock that is more promising than CME but that trades at less than 5 times its earnings, check out our report about the cheapest AI stock.
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Disclosure: None. This article is originally published at Insider Monkey.
