UBS lists top conviction stock ideas for its favorite sectors

Peak inflation will likely underpin stock market performance in the second half of the year, but at the same time equities are already pricing in a 40% chance of a recession, according to UBS.

Looking for better risk/reward, the equities team is getting incrementally defensive by upgrading Consumer Staples (XLP) to Overweight, going selective on cyclicals by downgrading Financials (XLF) to Underweight and upping Consumer Discretionary (XLY) to Overweight and tilting to “quality growth” by staying Overweight Info Tech (XLK) and Healthcare (XLV).

“After the 5th largest de-rating in the S&P 500 (SP500) (NYSEARCA:SPY) P/E since the ’60s amid inflation+growth worries, we reassess the relative setup for sectors and industries using our frameworks,” strategist Keith Parker wrote in a note.

Consumer Discretionary forward P/E is near historical lows, Staples offer better implied returns than Real Estate (XLRE) and Utilities (XLU) and is cheaper, the rates overhang for Tech may have peaked and Healthcare earnings growth is solid at a cheap price, Parker said.

The top conviction ideas for the Overweight sectors with analyst comment are:

1. Apple (NASDAQ:AAPL), price target $185 – “Our channel checks indicate Apple’s key products are experiencing strong demand despite supply chain disruptions and lockdowns in China.”
2. CrowdStrike (CRWD), $240 – “Within security (an insulated area of IT spending), CrowdStrike is the market share leader in endpoint security and is expanding into growing markets including cloud security and security analytics.”
3. Microsoft (MSFT), $330 – “Azure is now > $50B run rate business growing at just under 50% C/C, faster than competitors.”
4. Five9 (FINV), $180 – “Five9 continues to move up market with very large Enterprise wins and we believe the growth potential, competitive moat and strong execution to-date are more defensible and worthy of a premium to peers.”
5. Dell Technologies (DELL), $70 – “An aggressive share buyback in conjunction with a recently initiated dividend ($1.75 billion capital returned in the last quarter – ~5% of mkt cap) should support shares despite macro uncertainty.”
6. Micron (MU), $90 – “MU’s technology leadership and supply constraints should drive sustained GM and prevent a correction in DRAM pricing in ’23 even as consumer demand softens.”
7. Visa (V), $292 – “Trading at 24x our FY 2023E EPS, valuation already prices-in a mild recession and does not fully price-in Visa’s 5-year top and bottom-line growth potential of low teens and high-teens respectively.”

1. Arvinas (ARVN), $151 – “High conviction call on targeted protein degradation technology, which we think could be the largest innovation in biopharma in the coming years, akin to the discovery of antibodies ($150B+ in current annual sales).”
2. Elevance Health (ELV), $595 – “ELV is positioned to recapture Medicaid lives through its strong HIX /commercial businesses and its diversified portfolio should offset headwinds in its commercial book from a recession.”
3. Horizon Therapeutics (HZNP), $137 – “Horizon’s key drug Tepezza has a strong growth trajectory ahead for increasing penetration in thyroid eye disease; meanwhile, multiple pipeline assets are underappreciated.”
4. Humana (HUM), $532 – “We look for valuations to expand back to historical levels as growth prospects become clearer.”
5. IQVIA (IQV), $292 – The “company is best positioned in our opinion to take advantage of emerging CRO industry trends such as DCTs and data solutions software.”
6. Laboratory Corp. (LH), $312 – “LH shares have underperformed peers and broader market YTD on CRO segment concerns and while we do not disagree these are near-term headwinds, we believe better clarity on the outlook (2Q earnings on 7/28) could be a clearing event.”
7. Vertex Pharma (VRTX), $321 – VRTX has “double-digit 5yr top-line CAGR” and “an emerging pipeline.”

1. Chipotle (NYSE:CMG), $1,900 – We see “solid upside over time given: leading unit development (+8-10%), margin expansion drivers, and visibility into a strong multiyear growth opportunity, w/ easing cost inflation a potential upside driver.”
2. Constellation Brands (STZ), $270 – “At just under 21x NTM EPS estimates and with visibility to M/HSD organic revenue growth LT, we believe the risk/reward for STZ remains among the most attractive in our coverage universe.”
3. Dollar Tree (DLTR), $185 – “DLTR should continue to benefit from its move to the $1.25 price point. This will usher in more merchandising flexibility and increased margins.”
4. Hilton (HLT), $157 – “Hilton stands out as a result of its strong pricing power – they get to reprice inventory and most of their rooms are franchised so they get 3-5% off the top line and don’t have to pay higher expenses.”
5. Levi Strauss (LEVI), $24 – “We believe the company will leverage its strong brand name to navigate online retail disruption and macro headwinds to deliver a double-digit EPS CAGR through FY26E.”
6. Nike (NKE), $156 – “The company’s investments in product innovation, supply chain speed and digitalization are unlocking what is likely a multiyear period of above average growth.”
7. Nomad Foods (NOMD), $26 – We “believe the market is underestimating the amount of price the company will execute this year, setting NOMD up to deliver +DD EPS CAGR over the next two years.”
8. Walmart (WMT), $165 – “WMT should see a trade down benefit as consumers look to stretch their budgets. Plus, its alternative profit strategy should continue to gain traction.”

See Morgan Stanley’s list of Deflation Enablers.