With the threat of a U.S. military strike on Syria postponed, a major overhang for the overall market has been removed. The S&P has again rallied back above its 50-day moving average and broke the minor downtrend line that formed off the mid-July high, near 1,710.
Although I still remain cautious because of fears of Fed tapering, I am again trading from the long side. One stock I am currently attracted to is Rock-Tenn Company (NYSE:RKT), an international paper and packaging company, which according to Bloomberg, sports “the highest earnings per share in its industry.”
In the most recently reported fiscal third quarter, Rock-Tenn Company (NYSE:RKT)’s earnings per share (EPS) rose 127% from the comparable year-earlier period. Operational improvements, as well as aggressive sales and pricing strategies, contributed to the gain.
Based on planned price increases, management said it anticipates fourth-quarter and full-year earnings will be “sharply higher” this fiscal year, which ends in September. Rock-Tenn Company (NYSE:RKT) is also looking to reduce borrowing costs and enhance profitability by pursuing an investment-grade ranking on its debt from both Moody’s and Standard & Poor’s.
From a technical perspective, the stock is strong.
Rising from its June 2012 low near $49, the shares have formed a major uptrend and have risen over 150% to date.
Starting in early 2013, shares formed an accelerated uptrend and have been moving steadily higher with a few brief periods of lateral consolidation. During the July 29 trading week, the stock hit an all-time high of $118.31. The following week, shares retested this level, but were unable to penetrate it, and a small shelf of resistance formed.
In early August, shares retreated to the $110 level, which held as solid support during several consecutive weekly tests. This support level is reinforced by the intersection of the accelerated uptrend line.
Last week, shares jumped several dollars to a new all-time high on news that Wells Fargo (NYSE: WFC) revised its rating to “outperform.” Then, on Monday, the stock soared nearly 5% to another new high at $126.05, breaking out of a rectangle formation.
Typically, rectangles resolve in the direction they are first entered, and shares should continue to move higher.
According to the measuring principle for a rectangle — taken by adding the height of the pattern to the breakout level — shares should reach a minimum target of $126.13. At current levels, that represents a 1.4% potential gain. However, with no historical resistance in sight, shares could move much higher.
The strong technical picture is supported by upbeat fundamentals.
Due to increased product prices and higher sales volumes, analysts expect revenue for the upcoming fiscal fourth quarter will increase 9.3% to $2.6 billion.
For the full 2013 fiscal year, analysts project increased demand, coupled with higher prices paid, will cause revenue to increase 9.8% to $9.6 billion from $9.2 billion last year. For full-year 2014, analysts expect revenue will jump an additional 6.2% to $10.2 billion.
The earnings outlook is even brighter. Due to operating improvements that resulted in increased production and reduced maintenance costs, analysts expect fiscal fourth-quarter earnings will increase nearly 80% to $2.50 per share from $1.39 per share in the comparable year-earlier period.
For the fiscal full 2013 year, analysts project improved sales and pricing strategies will cause the company’s earnings to rise almost 60% to $7.12 per share from $4.48 last year. By 2014, analysts expect earnings will increase another 33% to $9.51 per share.
In addition to a strong fundamental outlook, the company is reasonably valued based on its trailing P/E ratio of about 14.3.
The company also has a very attractive PEG ratio (P/E divided by EPS growth rate) of about 0.86. Typically, a PEG of 1 or under shows good value.
The stock has a forward annual dividend yield of 1%. It has consistently paid a dividend since 1997, and since 2009, the quarterly dividend has jumped from $0.10 per share to its current $0.30 per share.
Given the strong technical and fundamental picture, I plan to go long on the paper products stocks.
Risks to consider: Consumer packaging is an economically sensitive sector and a downtick in worldwide GDP could result in decreased revenue and profit for Rock-Tenn Company (NYSE:RKT). Additionally, the company’s strategy of raising prices may prompt some clients to source their packaging from competitors. That said, increased prices have, so far, only resulted in revenue and earnings growth, and management anticipates strong growth ahead.
Recommended Trade Setup:
— Buy RKT at the market price
— Set stop-loss at $109.89, just below current support
— Set initial price target at $134.95 for a potential 8.5% gain by year’s end
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