Friday, September 16, 2011

Lincoln National Can't Secure Your Net Worth

Annuity vendor, Lincoln National (NYSE: LNC) enjoyed an 8.2% pop in Thursday trading. Is it too late to join the party?

It's hard to figure out why Lincoln National stock was up. But one clue is record options trading volume in puts (the right but not the obligation to sell shares at a set price and date) and calls (the right but not the obligation to buy shares at a set price and date) on Lincoln National. Thursday, a new 3-month trading record was established on both -- 2,256 call and 2,084 put contracts.

What does this mean? Savvy institutional investors are poised to profit from a big move in Lincoln National  stock. And it looks like that bet is largely a bullish one. How so? According to Avafin, unusual put/call volume signals that big investors expect a big move in the stock. And the number of bullish call bets outweighed the number of bearish put bets -- specifically, there were 0.9 puts traded for each call contract yielding a 0.92 put/call ratio.

Does this mean you should buy Lincoln National stock? Here are three reasons to avoid it:
  • High valuation. Lincoln National trades at a Price-Earnings-to-Growth ratio of 2.50 (1.0 is considered fair value) — a P/E of 5.6 on earnings forecast to grow 2% to $4.18 in 2012 -- but is expected to grow 31% in 2011.
  • Fair earnings reports. Lincoln National has been able to beat analyst’s expectations in only three of its past five earnings reports.
  • Higher sales and decent balance sheet but declining profits. Lincoln National sales have grown at a 4% annual rate over the last five years from $8.9 billion (2006) to $10.4 billion (2010) and its net income has declined at a 7.5% annual rate from $1.3 billion (2006) to $951 million (2010) -- yielding a solid 9% net margin. Its debt has risen -- but its cash has soared at a much higher rate. Specifically, its long term debt rose at a 11.5% annual rate from $3.5 billion (2006) to $5.4 billion (2010) while its cash climbed at a 13.9% annual rate from $1.6 billion (2006) to $2.7 billion (2010).
  • Under-earning its cost of capital. Lincoln National  is earning less than its cost of capital – but it’s improving. How so? It’s producing positive EVA Momentum, which measures the change in “economic value added” (essentially, after-tax operating profit after deducting capital costs) divided by sales. In 2011,  Lincoln National 's EVA momentum was 2%, based on six month annualized 2010 revenue of $10.3 billion, and EVA that improved from six months annualized 2010's -$417 million to six months annualized 2011's -$198 million, using a 7% weighted average cost of capital.
I am not sure why investors want to own this stock -- but it did hit a 52 week low on September 6 and if Lincoln National enjoys an upside earnings surprise when it reports its third quarter results, the stock could pop.


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