The fourth quarter began with a big stock market selloff, and many investors may be taking a close look at once-loved stocks in their portfolios that have disappointed with significant price declines this year. "Tax loss selling becomes a possible source of technical pressure on some stocks," Morgan Stanley writes in their latest U.S. Weekly Warm-Up report.
The screening process used by Morgan Stanley uncovered 118 prime candidates for such downside pressure, including these 12: The Kraft Heinz Co. (KHC), Goodyear Tire & Rubber Co. (GT), MGM Resorts International (MGM), Nutrisystem Inc. (NTRI), Coherent Inc. (COHR), Cimarex Energy Co. (XEC), Halliburton Co. (HAL), Williams Companies Inc. (WMB), BlackRock Inc. (BLK), Jefferies Financial Group Inc. (JEF), Synchrony Financial (SYF), and Spectrum Pharmaceuticals Inc. (SPPI).
12 Stocks Facing Steeper Declines
Source: Morgan Stanley; declines were computed from Jan.19 to Sept. 28.
What Matters for Investors
"We screen the S&P 1500 for tax loss selling candidates, looking for stocks that may have been well-liked to start the year and that have seen substantial price declines," Morgan Stanley writes. "Our screening methodology has produced a -2.0% average and -0.8% median relative return in calendar 4Q over the last 16 years and appears to yield further underperformance than just a screen of stocks with price declines," they add. The 118 stocks on Morgan Stanley's list met all 3 criteria in the table below.
How the 118 Potential 4Q Losers Are Chosen
|In the S&P 1500 Index|
|In the top 25% of consensus ratings from sell side analysts at the end of the second full week of January|
|Stock price fell by at least 10% from the date above to the end of the third quarter|
Source: Morgan Stanley
Over the prior 16 years, an average of 68 stocks each year (ranging from 7 to 195) met the screening criteria summarized above, and 47% of them on average (ranging from 27% to 73%) underperformed the market, as measured by the S&P 1500, during the fourth quarter. The biggest losers in the table include Coherent and Goodyear, as well as Kraft Heinz, which is scheduled to release 3Q earnings on Nov. 1.
Kraft Heinz beat analysts' 2Q estimates, but total sales were up by only 0.7%, and U.S. sales fell by 2%, per Bloomberg, which notes that overall revenue would have dropped if not for the effects of currency conversions and deal-related benefits. Warren Buffett, through Berkshire Hathaway, is the largest shareholder of Kraft Heinz, but Bloomberg calls this an "odd fit," based on negatives such as a high debt load and its having "made little headway in making its products more appealing to modern grocery shoppers, who are seeking fresher, less processed, and more nutritious options."
Morgan Stanley cautions that they have been using sell side analyst ratings as a proxy for buy side ownership and sentiment since the former data is "publicly available and easily accessible," while the latter, especially when it comes to judging investment manager sentiment, is not. Also, they note that "stock prices are ultimately driven by fundamental forces which, over a quarter, can overcome technical selling pressure of this nature," hence the fact that their screen has a "hit rate" of less than 50%. Nonetheless, the stocks passing Morgan Stanley's screens may indeed plunge further, based on such fundamental factors, even if fund managers do not sell them in order to manage their realized capital gains downward.