2017 is just around the corner and City analysts are picking their top stocks for the 12 months ahead. As well as the stocks I’m betting on for 2017, there are some companies I want to avoid next year as headwinds for these firms grow.
Indeed, I believe shares in Reckitt Benckiser (LSE: RB) will come under pressure next year as so-called ‘bond proxy’ stocks continue to fall out of favour with investors.
Bond proxies are equities that have become an alternative to bonds as interest rates on bonds plunge into negative territory. Defensive companies such as Reckitt are prime proxies as their cash flows are considered safe, helping long-term dividend sustainability. However, as bond yields around the world are now pushing higher, these bond proxies are becoming less popular.
It’s easy to see why. Yes, these are high-quality businesses, but the reach for yield has pushed their valuations up to record levels. Shares in Reckitt currently trade at a forward P/E of 22.9, down from last year’s 23.9 but still far above peer Unilever’s 19.7. I expect Reckitt’s shares to fall next year as investors rebalance away from bond proxies back towards bonds.
Revenues falling
AstraZeneca (LSE: AZN) is another company I’m avoiding for 2017. This year, Astra’s most successful drug Crestor came off patent, and the full extent of this patent expiry isn’t yet known.
According to City consensus, Astra’s top line is expected to fall by 5.8% next year due to management inability to rekindle the company’s pipeline growth. During the third quarter of this year, total product sales were down by 14% at $5bn, as Crestor and Nexium sales declined by 82% and 50% respectively in the US. For the quarter, the company reported a $1bn loss but earnings per share rose 4% to $0.80 thanks to a $453m tax benefit.
As Astra’s earnings continue to contract with falling sales, it may be wise to avoid the drug maker next year.
Profits evaporate
Finally, Rolls-Royce (LSE: RR) is a struggling engineer I’m avoiding next year. It has plenty of problems. From falling marine sales as a result of the oil price collapse, to faulty engines delivered to one of its largest customers Emirates, Rolls-Royce is struggling to get things right. What’s more, a new accounting change, whereby the company can’t immediately recognise revenue generated over the life of its engine service contracts immediately, will decimate profitability next year. Under the new accounting rules, Rolls’ 2015 profits would have been £900m lower than the £1.4bn reported. It’s not entirely clear how this change will impact profitability next year, but it’s evident the company will take a big hit to earnings.
With profits set to tank and problems for the group brewing, Rolls might be one to avoid next year.
