When to be patient

Editor's note: We're leaning hard into one particular stock today, for illustrative purposes only. This newsletter does not provide individual stock recommendations, and any stock mentioned should not be seen as a buy recommendation. Do your own research and buy lots of stocks.

It would be easier for me to be a "set it and forget it" investor if I could only figure out how to predict the future. The best way to set it and forget it, after all, is to only pick winners. But few things go straight up. (Little in my portfolio does, anyway.)

Selling out of a strong company just because of a lack of patience is a path to financial ruin. Alas, stubbornly holding on to a loser on principle and because you have cultishly committed to a stock doesn't work out much better. It is both true you should trust your judgment, and not overreact to one bit of bad news, and true that sometimes you have to admit defeat and bail.

There is no easy, cheat-code answer.

I'm still way short of perfection. I have losers in my portfolio. I have no formula, no perfect answer. But there is a thought process. 

Today we're going to talk about Lockheed Martin, the world's largest defense contractor. Disclosure: I own Lockheed Martin shares. Further disclosure: I'm not sure you should. This isn't meant to be an argument for why you should buy. You do you. Rather, this is an explanation about why I, personally, am not going to sell. 

Lockheed Martin, over the past three years, has been a loser to the market. And until the start of Vladimir Putin's jackassery in Ukraine, Lockheed Martin was losing big to the market and very much underwater. 

That's suboptimal. If your portfolio is full of Lockheed Martins, you would have been much better off buying an S&P 500 index fund and just forgetting about it. (That's actually a really good option for anyone. Index funds make up a sizable portion of my net worth.)

But with Lockheed Martin, we have the ability to both look backwards, and forward, in ways that make me patient. 

For one, the world is a dangerous place that shows no signs of getting safer. I should probably do a whole write-up on defense investing one day, but for now let's just say that the world's continued need for tools and materials to blow things up is central to my investment thesis for defense stocks. If I am wrong on that, I'll happily take the L. 

In Lockheed Martin's case, they telegraphed to us more than a year ago that they were entering a low-growth period. Franchise defense programs take years, and sometimes decades, to mature. Patience is required. In the early days of the war in Ukraine investors rushed into defense stocks. As the chart above shows, that enthusiasm faded shortly after earnings season. The hoped-for surge in revenue only really showed up at Lockheed Martin in the fourth quarter, nine months after the start of hostilities. This is not a quick turnaround type of business. 

In cases like this, I do lean on past performance, even though we all know it is not indicative of future results. When a company has a long track record of outperforming, my view is the onus is on the bears to demonstrate that this time it is different. I haven't yet heard a compelling case against Lockheed Martin.

It also doesn't hurt that Lockheed Martin is in a business where its primary customer, the U.S. government, telegraphs its spending plans years in advance. By law. Things change, of course. And one never wants to rely too heavily on politicians. But the Pentagon has a clear roadmap of what it intends to spend, and what it prioritizes, that investors can use to at least get a glimpse into the future. 

In Lockheed Martin's case, the company has a backlog of more than $150 billion in future business. That backlog has grown by 11% in the last year, no easy feat for a company of its size. 

It is also willing to bribe us for our patience. In 2022 Lockheed Martin paid out 178% of its free cash flow to investors. The company doesn't expect to return to growth until 2024 at the earliest, but it does anticipate generating $8 billion in cash from operations this year. That should easily support a dividend currently yielding nearly 3%. 

Again, I'm not saying you should run out and buy Lockheed Martin. To be honest there are other defense stocks I have invested new money in recently that I think are better relative values than Lockheed at this moment. Please do not buy Lockheed Martin based solely on this post. 

But I also wouldn't even begin to contemplate selling this "loser," even after three years of underperformance.

There is no template to use when weighing selling vs. holding. What works here wouldn't necessarily work for another stock. But what we can do is have a rational, logical conversation with ourselves about that underperformance to try to have a better understanding of what we got right, what we got wrong, and where it goes from here.

There are times when selling a stock is necessary. For me, today is not that day.

Disclaimer: Fits and Starts DOES NOT provide financial advice. All content is for informational purposes only. Stocks mentioned are as reference only, and a mention should not be interpreted as a buy or sell recommendation. The author is not a registered advisor or a broker/dealer. DO YOUR OWN HOMEWORK. The information contained within is not and should not be construed as investment advice, and does not purport to be.

No statement or expression of opinion, or any other matter herein, directly or indirectly, is an offer or the solicitation of an offer to buy or sell the securities or financial instruments mentioned.