Most of the market is now focused on the hype in the high-flying technology stocks today, where names like NVIDIA (NASDAQ: NVDA) keep delivering insane financial results to help the stock break past all-time highs repeatedly. However, there is value to be had in the ‘defensive’ stocks, characterized by their immunity to the underlying business cycle; here’s why that is the case today.
The Fed announced that it would be looking to cut interest rates this year, where initially, the market began to price in these expectations by March. Now, the comments indicate that there will be no cuts coming in March but instead by May or June of this year, a trend you can see in the FedWatch tool offered by the CME Group (NASDAQ: CME).
Because of this uncertainty surrounding the timing of the interest rate decisions, which act as the main driver of the underlying business cycle, indecision on interest rate direction does mean indecision on the direction of cyclical stocks, which is one of the reasons why stocks like Domino’s Pizza (NYSE: DPZ) and Papa John’s (NYSE: PZZA) could soon attract some investor attention, but more on that later.
Postponed rotation
Knowing what you know now, it would be easier to understand that investors and traders would look into the more active names like consumer discretionary stocks. Since the timing of these interest rate cuts is now up for discussion, these same investors would likely look for safety in less volatile sectors.
But what if you could get the best of both worlds here? By being part of the Consumer Discretionary Select Sector SPDR Fund (NYSEARCA: XLY) and the food sector, Domino’s and Papa John’s could provide the safety of a non-cyclical business with the exciting stories found in the opposing cyclical stocks.
Because the consumer discretionary sector has underperformed the broader S&P 500 index by as much as 5.3% over the past six months, there is a bit of a performance gap to be filled for the sector to catch up to the rest of the market. Which of the two stocks could prove to be the more attractive proposition?
Keep in mind that it is safety that you are seeking in this environment, at least until there is a clear direction as to where the FED may swing interest rates.
Regarding the food services industry, the ISM services PMI index shows three straight months of expansion activity, putting the odds in your favor for an earnings beat in that space. Finding the growth area within the discounted consumer discretionary sector, it is time to look for safety.
Volatility typically brings risks to investment, so you want to look for the low-beta stock in this group to give you the best return with the least risk possible. Anything above 1.0 is considered risky, while anything below it is considered safe.
Domino’s stock inherits a beta of only 0.84; check for safety. On the other hand, Papa John’s has a beta of 1.18, which is not the best option if you are looking for a smooth ride.
Does the market agree?
Domino’s stock trades at 99.0% of its 52-week high, which could be a new momentum leg for it to flirt back with its all-time high price of $567.6 a share, not seen since 2021. Papa John’s stock sits at only 81.0% of its 52-week high prices.
It is clear where the market is willing to put its money to work in between the two, but here’s more evidence to back that view.
It isn’t only retail investors willing to buy Domino’s stock; The Goldman Sachs Group (NYSE: GS) and Prudential Financial (NYSE: PRU) have increased their stakes in the stock by as much as 13.1% and 169.0%, respectively. More than that, the market keeps valuing the stock in a way that represents a further bullish view.
While Papa John’s stock trades at a price-to-earnings ratio of 25.7x, Domino’s is commanding a 7.3% premium in its higher 27.6x multiple. The saying “It must be expensive for a reason” applies here, and now you have a better idea of what that reason is.
A low beta with favorable price action, operating in a sector that will likely report growth in financials (per the PMI trends), you can’t deny that there is a bit more juice to squeeze in Domino’s, at least that could potentially be the case for you until the FED comes back with a more specific direction.
