In the February 2013 issue of Investor Advisory Service we noted that fixed-income mutual funds had captured more new investor money than stock funds in 56 out of the last 60 months. That is to say from 2008 through the end of 2012, only four months saw mutual fund investors place more new money into stocks than bonds. (Please note that we don’t advocate mutual funds in the IAS. We only reference fund flows here because high-quality data exists measuring the net effect of retail investors entering or leaving mutual funds.)
After five lean years for stock funds, in the first week of 2013 they took in six times their
entire net gain of 2012, a remarkable figure! One analyst called it the fourth largest weekly influx ever. The tide seemed finally to be turning in favor of stocks. We hypothesized that in an environment of ever-lower yields, the fixed income market had finally turned off the average investor. Below a critical level of yield, the retail investor seemed to lose interest. Those investor dollars would go elsewhere, and the most popular “elsewhere” to go happened to be the stock market.
One reason money flows were so high on our radar was that economic conditions were clearly insufficient to explain the stock market’s torrid gains. Most of the major economic indicators, such as personal income, consumer confidence, employment, and industrial production, all continued to make gains, but did so at a rate too slow to signal a robust recovery. At the time we said, bluntly, “Very little has changed on the economic front, suggesting that improving investor sentiment is a matter of perception more than reality.” We summed up our overall stance toward the stock market as follows:
There is a tremendous amount of money sitting on the sidelines looking to get into the game. This would be “The Great Rotation” back into stocks. Some degree of caution is warranted, however, since stock prices have already risen dramatically over the past seven months, even as growth in corporate profits has moderated.
Looking back, the one piece of that statement which fails to hold up is the “degree of caution” we recommended. Stocks simply went on a tear throughout 2013, with the S&P 500 up 32% for the year, including dividends.
Let’s take a closer look at one of the companies featured in the February 2013 issue: Priceline.com Incorporated (NDAQ: PCLN). Known for its commercials staring actor William Shatner as “The Negotiator,” Priceline flirted with bankruptcy after its airfare comparison website fell out of favor during the dot-com crash, but now the company is pulling off something of a second act as the world’s hotel-listing service of choice. Over 70% of revenue comes from international markets, of which Europe is the biggest contributor. The market for hotel booking is less competitive in overseas markets, producing better margins and more greenfield opportunities for growth. In the most recent quarter before we published our feature, international markets grew at a 31% clip, while U.S. revenue increased just 6%. Although the international number was slowing, we still saw a lot of growth ahead. With shares trading at a price of $663 at the time of selection, we modeled a conservative 15% for earnings growth, saying the price could go as high as $1,624 within five years.
Share price performance only matched the broader stock market until May, when a blowout quarter sent shares on an upward trajectory that would last for the rest of 2013. Prior to the company’s Fiscal Q1, reported in May, management had been expecting increased competitive pressures to start affecting the growth rate. In retrospect, it’s not exactly clear what they were afraid of. Those pressures failed to materialize in Q1, and operating income increased 28% on 26% higher revenue, with 35% growth in EPS. Q2 guidance called for revenue growth of 15%-22%, a range which the company easily surpassed, reporting 27% higher revenue with EPS up 22%.
As the share price inched toward $1,000, we issued a hint of caution that revenue growth depended on rapidly-increasing marketing costs. It seems we were a little too conservative, however, as the summer travel season produced a superb Fiscal Q3 in which revenue increased 33% and EPS increased 35%. Shares crossed the $1,000 mark in late September and trade well above that level today.
At a recent price of $1,149, Priceline.com has returned 73% since the time of selection, nicely outperforming the S&P 500’s 32% gain during the same period. We often pride ourselves on finding opportunities in unexpected places that our readers aren’t likely to find elsewhere. Fast-growing, industry-leading Priceline.com wasn’t exactly a hidden gem. Truth told, it was right out there in the open for anybody to see. Not every great stock pick requires an ultra-clever thesis, however. Sometimes you just hop on a fast horse and go.
After such a big run-up, we worry that the law of large numbers might catch up to PCLN shares. The bigger a technology business gets, the harder it becomes to grow at a torrid pace. Still, Priceline’s industry-leading position seems secure, and we expect plenty more growth for this company. Whether the stock makes further gains from here is tougher to guess.