Chairman Powell Says Inflation Is Cooling: 2 Stocks Set To Soar

Over the past 13 months, the stock market (SPY)(QQQ) has struggled, largely due to rising interest rates:

This is because rising interest rates increases the discount rate applied to stock valuations, which in turn means lower stock prices. Furthermore, rising interest rates also typically results in slowing economic activity, since businesses and consumers are incentivized to pay down debt and businesses suffer from a higher cost of capital in such a scenario. With interest rates rising as rapidly as they have and the curve inverting sharply as it has, many fear a recession is around the corner. Such a scenario would hurt corporate earnings significantly, further justifying the stock market pullback.

That said, in recent weeks there has been some good news for markets. Recent CPI readings have indicated that inflation is cooling rapidly even as unemployment is reaching new lows. While some in the stock market were fearful that the low unemployment numbers would prompt the Federal Reserve to double down on their interest rate hikes, Chairman Powell has indicated in recent days that he is becoming more dovish due to the declining inflation. At a recent appearance in Washington, D.C., Jerome Powell noted that the U.S. economy has entered a “disinflationary process” and also refused to take a hawkish stance in response to the very strong recent jobs report.

As a result, it is growing increasingly likely that interest rates will peak soon and likely begin falling again before too long as the Federal Reserve’s fight with inflation winds down and the focus then turns towards revving up the economy’s growth again ahead of the 2024 elections. An additional motivator for the Federal Reserve to limit interest rate hikes moving forward and even to pivot towards cuts as soon as possible is the simple fact that the U.S. government is facing a major debt problem even as it is needing to spend money to keep pace with rising geopolitical challenges from the likes of China, Russia, North Korea, and Iran. If interest rates can fall, it makes servicing its current debt while also sustaining U.S. military strength much easier to accomplish.

Once interest rates peak, many stocks that have been beaten down in recent years due to interest rate hikes will likely soar higher. In this article, we discuss two stocks to buy now while they are cheap before a Fed interest rate policy pivot makes them soar.

#1. Palantir Technologies (PLTR)

The chart below should pretty clearly illustrate how rising interest rates have impacted PLTR’s stock price:

As interest rates have risen rapidly over the past 13 months, PLTR’s stock has taken a nosedive. This is largely due to the fact that PLTR is an as of yet unprofitable, high growth technology company that operates in sectors (data analytics and artificial intelligence) that have very strong growth outlooks with lengthy growth runways. As a result, they are expected to generate the vast majority of their cash flows in years quite distant from now. This means that whenever interest rates rise rapidly, their intrinsic value is hurt more than other stocks such as REIT (VNQ), midstream infrastructure (AMLP), and utilities (XLU) that generate a much higher percentage of their expected future cash flows in the near term and return them to shareholders via dividends.

While this has greatly hurt PLTR over the past 13 months, it could also serve as a tremendous catalyst moving forward. If/when interest rates peak and the Federal Reserve pivots (likely even before then as it will be once the market fully prices in a Federal Reserve pivot), the PLTR stock price is likely to zoom significantly higher and could quite possibly double or even triple within a year.

Another reason to be particularly bullish on PLTR is because it is generating strong growth in both its government (Gotham) and commercial (Foundry) businesses. Its Gotham platform has earned considerable acclaim for its role in helping Ukraine’s military outperform against the Russian military over the past year and continues to win growing business from the United States government across numerous agencies both within and outside of the Department of Defense. Meanwhile, it Foundry business is also growing and continues to report contract wins, including a recent $50 million expansion with Japan’s Sompo (OTCPK:SMPNY) as well as a significant deal with Cardinal Health (CAH).

With an estimated total addressable market that is over $120 billion and growing rapidly against a current TTM revenue of ~$1.8 billion, the sky is the limit for how fast and how long PLTR can grow. Between its powerful technology, world-class workforce, massive growth runway, and substantial stock price upside potential, PLTR appears to be an attractive risk-adjusted buy right now with evidence mounting that the interest rate winds could be shifting from headwind to tailwind.

#2. Algonquin Power & Utilities (AQN)

AQN owns a high quality portfolio of regulated utilities and renewable power generation assets. While the underlying business has continued to perform well over the past year, the stock price has been crushed and the dividend slashed due to rising interest rates:

While you would not think an investment grade utility like AQN would be so sensitive to soaring interest rates, AQN’s management got caught being far too aggressive with their balance sheet. Just as interest rates were set to take off and in the midst of an already ambitious growth spending program, management announced the acquisition of Kentucky Power and with it, assumed a large amount of floating interest rate debt and also set themselves up to have to issue a lot of common equity on the open market in order to complete the financing for the deal.

Once interest rates took off and the mini renewable energy bubble popped, AQN stock crashed down to earth, making the deal’s financing – both the equity and debt portions – a whole lot more expensive. To make matters worse, AQN experienced some delays in renewable power assets coming online and associated credits, resulting in 2022 results coming in materially below expectations. The final straw that broke the camel’s back here was that FERC regulators decided that they did not approve of the Kentucky Power acquisition as originally stated, forcing AQN to go back to the drawing board to try to salvage the deal. At a minimum, this is delaying the acquisition by a meaningful amount of time and at worse could force them to accept terms to the deal that make it less profitable than it was originally projected to be (even though they have already won some price concessions from the sellers due to rising interest rates).

As a result of this perfect storm of negative events slamming AQN, it decided to strategically slash its dividend and reduce some of its growth ambitions while also pursuing an accelerated pace of renewable power asset sales in order to salvage the investment grade balance sheet and right size the cash flow statement in pursuit of more sustainable earnings and dividend growth over the long-term.

While this all has reflected poorly on management – and for good reason – the upside potential here is significant. First and foremost, as one of the more interest rate-sensitive utilities, if/when the interest rate winds officially shift in the market’s eyes, AQN could see significant upside in its share price. Additionally, AQN could also benefit from the Kentucky Power acquisition officially falling through. This would free up a considerable amount of capital on their balance sheet and reduce their floating interest rate exposure.

Finally, given that the underlying assets remain in good shape and are very attractive assets and management recently poured millions of dollars in their own money into the stock on the open market, there is good reason to be bullish on the company’s long-term prospects. Furthermore, the stock itself has overreacted in our view to the negative events. Here is a chart that management shared at their recent investor update, illustrating just how attractive AQN shares are relative to peers:

Investor Takeaway

The winds of the stock market appear to be shifting right now. While no one knows how the economy itself will perform this year (our view is that a recession is still more likely than not), there are some green shoots appearing for the stock market. Inflation is cooling rapidly while the jobs market is remaining remarkably strong.

That said, we still expect a recession to kick in later this year, and when it does, recession resistant stocks will likely suffer but the Federal Reserve will also likely respond by cutting interest rates. When this happens, more economically resilient, but interest rate sensitive businesses like PLTR and AQN are bound to significantly outperform the SPY and QQQ, especially given how badly their stock prices have been mauled over the past 13 months.

Both businesses have exceptional underlying products/assets and attractive long-term growth runways due to the data analytics/artificial intelligence and renewable energy revolutions taking place right now. Furthermore, both look quite inexpensive at the moment. The only thing really missing for both is a shift from rising interest rates to falling interest rates. Once that macro dynamic is in place, both should take off like a rocket. Buy them now while you still can. I own PLTR in my personal account and at High Yield Investor we own AQN and other high yielding, defensive stocks that are poised to recover from a shift in Federal Reserve interest rate policy, even if a recession hits.

Editor’s Note: This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.