Revisiting Fastenal
This blue-chip company offers fine risk/reward at today's quote.
Industrial supply company Fastenal (FAST, Financial) rarely trades with a cheap valuation. It has been a solid growth stock for years. Fastenal’s share price grew from under $10 back in 2004 to over $53 at its peak in 2012.
Sales and earnings trended higher through 2015. Slow industrial production numbers saw Fastenal’s EPS inch up by a penny in this year’s Q1 before dipping to 45 cents in Q2 versus 48 cents a year earlier. This year's guidance now projects EPS of $1.75, off 2 cents year over year.
Long-term holders have little to complain about, but those who bought in at peak valuations over the last few years are sitting on paper losses.
Those solid stats back up Value Line’s favorable assessment of the firm. Value Line's percentile score ratings on the latter three categories range from 5 (lowest) to 100 (highest).
This is not the first time Fastenal’s profits and share price have declined. During the Great Recession, EPS pulled back by 36.7% and the stock fell by over 50%, in line with the broad market.
Visionaries who bought Fastenal on the bad news were well rewarded. Fastenal climbed by more than 325% from February 2009 through March 2012. That’s when over enthusiasm took Fastenal to its priciest valuation of the past six and a half years.
Post-recession, Fastenal has averaged over 28x forward earnings, while carrying a typical yield of 1.92%. The best entry points (green-starred below) all came at below-average multiples. Last summer’s sell-off offered the only recent opportunity to own the stock at a sub-20 P/E.
Three out of four of Fastenal’s should-have-sold moments (red-starred) represented historically overpriced levels.
What can we say about the present value of Fastenal? The stock is now available at a slight discount to its historical P/E. Its yield, at 2.78%, is 44.8% better than the company’s average post-recession payout.
S&P carries a neutral rating on Fastenal while noting its pristine balance sheet. They project a 12-month target price of $46, about 6.3% above where the shares sat on July 16.
Achieving that goal while adding in the 2.78% yield would provide north of 9% in total return. Rather than dismissing Fastenal as a stock with limited upside, perhaps you should think of it as a "bond substitute" with terrific total return prospects.
Hitting at least that modest target appears to be a high probability event. Fastenal peaked at north of $44 per share during each of the most recent six calendar years, including 2016 to date. Four of those years saw Fastenal touch $49.99 or higher.
Option savvy individuals can consider selling Jan. 19, 2018 expiration date $40 puts for $4.50 per share in premium. That drops the worst-case, forced purchase price to just $35.50, a built-in 17.8% margin of safety. The break-even point is lower than the actual lows during the entire period 2012 through 2014, and within a whisker of Fastenal’s fleeting panic bottoms during 2015 and 2016.
The best-case scenario for put sellers would be keeping 100% of all premium received without ever needing to buy the stock at all. Achieving that outcome does not even require upward movement. Fastenal could decline by up to $3.23 per share (-7.47%) without the options becoming exercisable.
Each contract sold would net $450 less commission. The maintenance requirement on the sale of these naked puts would start at about $710 per contract. The trade offers a low-risk way to capture potential gains of 63% (based on the margin requirement) over the coming 18 months.
More aggressive traders might want to sell higher ($45 or $50) strike price puts, which would lead to larger profits if Fastenal returns to the $50 mark. The “if put” prices on those strike prices would be about $37.90 or $39.60 respectively, based on the final bid-ask spreads on July 16.
Buy the shares, short some puts, or consider doing both.
Disclosure: Long FAST shares, short FAST puts, short FAST covered calls.
