On the surface, Alcoa (AA – Free Value Line Research Report for Alcoa) and Merck (MRK – Free Value Line Research Report for Merck) have very little in common. Comparing these two companies, in fact, doesn’t make a whole lot of sense unless you can make some connection. Fortunately, Value Line’s equity research reports provide a multitude of ways to compare the stocks of two companies that are clearly on divergent paths right now.
Although the Graph gives a visual presentation of the directions each company’s shares are headed, Alcoa lower and Merck higher, the Total Returns table displayed to the bottom right of the Graph really sends the message home. Over the trailing 12 months through December, Merck shares advanced 9.5% while Alcoa shares fell a massive 43.3%.
That’s a pretty big divergence. The Analyst Commentary for each company’s report gives a pretty good overview of what’s behind each company’s fortunes, and, thus, their respective stock performances. To quickly summarize, the aluminum market has been rough for Alcoa, and Merck has been doing relatively well in the pharmaceuticals space. Clearly, there is more to the stories, which analysts Dominic Silva and Michael Ratty spell out in more detail, but that sentence sums up the broad themes.
The divergent performances also lead to divergent Timeliness Ranks for each stock, which are displayed in the Ranks box on each report. The Timeliness Rank is a rank of a stock’s probable relative market performance in the year ahead. It is derived via a computer program using as input various factors, including the long-term price and earnings history, recent price and earnings momentum, an earnings surprise factor, and cash flow, among others. All of the data used are known and actual.
Stocks ranked 1 (Highest) and 2 (Above Average) are likely to outpace the year-ahead market. Those ranked 4 (Below Average) and 5 (Lowest) are expected to underperform most stocks over the next six to 12 months. Stocks ranked 3 (Average) will probably more or less advance or decline with the market in the year ahead. Merck receives a Timeliness Rank of 1, Highest, while Alcoa receives a Rank of 3, Average.
So far, it looks like Merck is the clear winner. Its stock price has been heading higher, it also earns the top Timeliness Rank. Why even compare these two stocks—just buy Merck, right? Not so fast!
Taking a second look at the Graphs for each company shows another large divergence. Merck shares are trading just beneath the 2014-2016 target-price Range displayed to the far right of the graph with dotted lines. Alcoa shares, meanwhile, are selling way below the Target Price Range on its graph. These two dotted lines are the culmination of a lot of additional work on the part of Value Line’s analysts and are supported by the data to the right-hand side of the Statistical Array. This is where subscribers can find our analyst’s take on what a company’s financial performance might look like three to five years hence. Note that the projections are displayed in bold typeface.
The Target Price Range represents the range in which the share price is likely to fall 3 to 5 years into the future, assuming Value Line’s projections are on the mark. The center point of the range roughly corresponds to an analyst’s projections in the period 3 to 5 years out for earnings per share multiplied by the projected Price/Earnings ratio for the same period. The width of the high-low range depends on the stock’s Safety rank. Stocks with a high Safety rank (1 being the Highest) have a narrower projected range than those with low ranks (5 being the lowest).
Visually, it is pretty clear that Merck shares have much less potential for gains than Alcoa’s. The Projections box helps put this into numbers, where the potential high and low prices over the three- to five-year projection period are displayed. Also shown in this box is the percentage price changes we project and the expected compound annual total returns (price appreciation plus dividends). To make these calculations, the expected prices 3 to 5 years out (as shown in the Target Price Range and the Projections box) are compared with the recent price shown at the top of the page.
So now it seems that Alcoa shares are the better option, right? Well, not so fast. The real answer is that the two stocks are likely to appeal to two very different types of investors. Clearly those seeking large, generally well-financed companies could consider either Merck or Alcoa. However, those with a growth or momentum bias might be better off digging deeper into Merck. Indeed, while Value Line’s long-term price targets may be close at hand, suggesting a fully valued stock, that doesn’t mean that the market won’t keep pushing the shares higher in the near term. In fact, the Timeliness rank of 1 suggests that such a near-term price advance is likely.
Alcoa, meanwhile, with a Timeliness rank of 3, is pegged to track the broader market right now, but has impressive long-term recovery potential. In fact, as the Projections box shows, the low end of analyst Dominic Silva’s price range would lead to a 22% annualized return from recent prices. That said, the Analyst Commentary lays out some near-term risks—still an investor with a venturesome bent and a value bias would likely be well served by keeping an eye of this aluminum giant.
So, in the end, Alcoa and Merck are both interesting investment opportunities for the right type of investor. The point of making this comparison was, in fact, to note how one can use Value Line’s stock reports to quickly differentiate between which stock might be appropriate for which type of investor.
At the time of this article's writing, the author did not have positions in any of the companies mentioned.