*Technical and fundamental analysis of my next stock pick that I have added to my portfolio*
Welcome back to the blog, I hope you have all had a great trading week. In this blog post I am going to share with you something a little different to my normal content. I am going to share with you, my analysis of a publicly traded stock that I believe has good long term growth and income potential and one that I shall be adding to my portfolio.
I have always maintained that the content in this blog, specifically the technical analysis and educational content, is aimed at those who are active traders and speculators of the financial markets. Therefore most of the trade are short/medium duration on high volume and high liquidity markets and instruments such as FX, Commodities and Equities (stock indices) derivatives.
What is a stock?
A stock (also known as equity) is a security that represents the ownership of a fraction of a corporation. This entitles the owner of the stock to a proportion of the corporation’s assets and profits equal to how much stock they own. Units of stock are called “shares.”
Key points (taken from Investopedia).
- A stock is a form of security that indicates the holder has proportionate ownership in the issuing corporation.
- Corporations issue (sell) stock to raise funds to operate their businesses. There are two main types of stock: common and preferred.
- Stocks are bought and sold predominantly on stock exchanges, though there can be private sales as well, and they are the foundation of nearly every portfolio.
- Historically, they have outperformed most other investments over the long run.
Who is GlaxoSmithKline PLC?
GlaxoSmithKline PLC is a global healthcare company. The Company operates through two segments: Pharmaceuticals and Vaccines. The Company focuses on its research across six areas: Respiratory diseases, human immunodeficiency virus (HIV)/infectious diseases, Vaccines, Immuno-inflammation, Oncology and Rare diseases. The Company makes a range of prescription medicines and vaccines products. The Pharmaceuticals business discovers, develops and commercializes medicines to treat a range of acute and chronic diseases. The Vaccines business provides vaccines for people of all ages from babies and adolescents to adults and older people. It has a portfolio of medicines in respiratory and HIV. Its Pharmaceuticals business includes Respiratory, HIV, Specialty products, and Classic and Established products. Its Vaccines business has a portfolio of over 40 pediatric, adolescent, adult, older people and travel vaccines.
Now let’s take a look at the price chart for GSK and dive in to the technical analysis of the stock. The chart below is the weekly timeframe price chart.
At first glance, the long term price action for GSK seems range bound with price moving sideways in-between the 1720 level and the support at 1300/1235. Early this year there was a potential breakout with price reaching multi year highs of 1850 before the coronavirus pandemic reached global levels and almost all stocks fell.
Since then we have seen the early 2020 price crash, the recover back up to the resistance zone at 1720 and then another sell-off where price has now come back down to bounce off of the 1300 price support zone. This is where I think the opportunity lies.
Not only is GSK trading at the bottom of its multi year price range which means the upside potential is greater than the downside potential (in my opinion) for growth but GSK also has an excellent income potential. The dividend yield is currently circa 5.3% which is fantastic and that means that even if price continues to remain range bound then any investment in this stock will generate annual dividend income.
Higher dividend paying stocks are much better when trading in range bound markets where returns from growth is limited for some time. The charts below show the long term dividend payout and dividend yield for GSK stock.
GSK vs Competitors.
Looking at the pharmaceutical sector as a whole and more specifically, the stock prices of the other “Big Pharma” companies like GSK, it is apparent that GSK is actually undervalued (the worst performing) in relation to its industry competitors. The chart below shows the YTD normalised returns of the stock prices for the following pharmaceutical companies.
- GlaxoSmithKline – GSK.L
- Pfizer Inc. – PFE
- Johnson & Johnson – JNJ
- Merck & Co., Inc. – MRK
- AstraZeneca plc – AZN
- Roche Holding AG – ROG.SW
- Novartis AG – NOVN.SW
As you can see, GSK is the worst performing stock out of the bunch where 3 out of the 7 companies stock prices (PFE, JNJ & AZN.L) are now trading at a positive return for the year to date. Roche Holding AG (ROG.SW) is relatively breakeven for the year and both Merck & Co (MRK) and Novartis AG (NOVN.SW) are trading down around 11% YTD. Where as GSK stock is trading at more than -20% YTD.
Therefore as a sector, it could be said that there is potential for the price divergence to begin to reverse and become more aligned meaning GSK could be considered undervalued. Let’s take a look at the GSK stock price vs the overall market where, in this case, I will use the S&P500 stock index.
One point to note from the above chart is that historically, and especially in more recent years, GSK has underperformed the overall stock market. However, a lot of this can be attributed to the incredible performance of the tech giants in the S&P500 that have sent it soaring to new highs.
The SPXT index is a stock market index that uses the S&P500 pricing but removes all technology companies from its calculations. As you can see, this reduces returns of the stock market dramatically and in turn makes GSK look slightly better.
If we look at the correlation coefficients of these two assets (GSK vs SPXT) then we can see that there is definitely some abnormal price action in recent months that could present a trading opportunity.
Since the creation of the SPXT index (SPX index excluding technology), the GSK and SPXT have had a positive correlation with a coefficient of 0.303. This would imply that over time, the price of the two assets rise and fall with each other. However, in the last 6 months this positive correlation has completely disappeared.
The correlation between GSK and SPXT through the last 6 months is now negative and strongly negative with a coefficient of -0.726 and this is where a trading opportunity might arise. Trading these two assets as a relative value trade in the expectance that the correlation begins to revert back to its normal positive coefficient.
I have spoken about this in previous blog posts, the market correlation divergence hedge, which can be found via the link below.
After the year we have had, I think it is wise to assume that a lot of people have become more health conscious and people will continue to try to become healthier. This should be good for pharmaceutical companies and GSK in particular has they make a number of health based products.
GSK are the producers and owners of the Theraflu and Otrivin brand of products which are very popular over the counter cold and flu remedies. We are in flu season right now and I believe the public will be more conscious about their flu symptoms in future thanks to the coronavirus pandemic. This should boost sales.
GSK also own the Nicorette brand which is consists of multiple market leading nicotine replacement “therapy” products. Coronavirus is respiratory and despite some speculation on smoking actually decreasing your chances of dying from the virus, I think many more smokers will be looking to cut down/quit to improve their overall health.
We are also heading into a potentiality long financial recession in the UK and also many other countries are in the same position. There will be more job losses and cut backs and if your money is tight, then smokers will being to cut back and even try to quit… with the help of Nicorette products.
Future price predictions for GSK.
The chart below shows some potential scenarios for GSK stock price movements over the next few months and even years.
As explained earlier, price has come back down to bounce off of the 1300 price support zone which is the lower part of the 5yr range. I therefore consider this “buying low” and the upside potential is enough to warrant purchasing in my opinion.
I have 3 scenarios that I believe could play out. The first is price continues to climb from the current levels after its bounce off of the 1300 support zone and goes on to retest the range resistance zone at 1720. From there it could reverse or even go on to reach the upper highs at 1850.
Alternatively price could sell off once more from here and go on to retest the lower support zone at 1235 which is a possibility. This would an even better opportunity to buy in but that is a “hindsight” move and no one can know the best time to buy a stock until it has happened. From there price could then reverse and trade back up to the 1720 and 1850 upper range resistance zones.
The third scenario is price sells off from here and breaks out of the range and falls to new multi year lows. I believe this is an unlikely scenario but still a possibility however the dividend income will counteract any medium term capital losses whilst the stock price falls and in the long term I can’t see why price will not be trading above the current price levels at some point.
Interestingly, I have been working with a machine learning code in Python that uses time series analysis to predict the future price of a stock based on previous price data. It works by creating an artificial neural network to identify underlying relationships between previous open, close, high and low prices and volume of daily price data and the future stock price.
I ran a simulation that uses the this information and looks for underlying relationships between the inputs and output which is future stock price. The machine looks at the last 100 days of price data and tries to predict the future stock price in 66 days (3 trading months) time.
Here are the results I obtained:
- The model produced predictions with an accuracy score of 94.24%
- The future stock price after 66 days is predicted to be 1405.62
The image below shows the results of the model where predicted price is in relation to the actual stock price through the testing period. As you can see, the 2 lines do follow each other quite closely and this is reflected in the accuracy score of more than 94%.
The predicted price effectively becomes a smoother version of price but an observation would be that it tends to overestimate stock prices instead of underestimating it and this is visible by the red line being above the blue line for more of the test period.
However, despite this, an acchranry score of more than 94% is excellent and the model does predict that the price of GSK stock will increase by around 2% in the next 3 months of trading. This supports my own technical and fundamental analysis for a long position on GSK stock.
I am working on adjusting the model to predict a longer term stock price for GSK in order to support the bias for holding this stock for a longer period of time (3 years – 5 years). I will share this on my Twitter account which is @DiaryFinance
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All my technical analysis is done using the TradingView platform. You can get access via the link below.
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DISCLAIMER: None of the information posted on this site is to be considered investment/financial advice. Trading is high risk and you should only trade with money you can afford to lose.