Stock Quotes in this Article: ADM, DF, KMB, PG, WMT

BALTIMORE (Stockpickr) -- Hedge funds love consumer stocks. All told, hedge fund managers piled onto names in the consumer discretionary and staple stocks, hiking their positions in consumer stocks by almost twice as much as their next-favorite sectors.

Today, we’re taking a look at five of the smart money’s favorite consumer names – and whether they still make sense to buy.

Consumer names have lagged the broad market in 2012, delivering 5.11% versus close to 10% from the S&P 500 year-to-date. But that doesn’t exactly tell the whole story. The non-cyclical consumer names may come with lesser returns this year, but they’re also delivering a whole lot less volatility and a set of hefty dividends. Of the individual consumer-focused names that we saw get piled into the most in the second quarter, nearly all were defensive.

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So what stocks are getting the most love from hedge funds?

We’re entering full-blown 13F season this month, and the early holdings being reported by hedge funds are telling, especially because they’re subject to less lag right now.

And since we’re looking at fund holdings in the aggregate, they’re less impacted by the fact that some funds haven’t filed yet. Consider it a sampling of the trillions of dollars managed by hedge funds -- a sneak peak.

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Institutional investors with more than $100 million in assets are required to file a 13F, a form that breaks down their stock positions for public consumption. From hedge funds to mutual funds to insurance companies, any professional investors who manage more than that $100 million watermark are required to file a 13F. And by comparing one quarter’s filing to another, we can see how any single fund manager is moving their portfolio around.

Without further ado, here’s a look at five consumer stocks hedge funds love.
 

 

Wal-Mart

There’s no bigger consumer stock out there than Wal-Mart (WMT). The $250 billion retailer sells products to more than 200 million consumers each week, earning almost $450 billion in revenues across more than 10,000 stores. Those stats make Wal-Mart the biggest retailer in the world, a title that the firm has managed to barricade through impressive top line growth over the past few years.

Wal-Mart’s retail crown is predicated on price. Founder Sam Walton’s “Always Low Prices” slogan wasn’t just lip service -- the firm is aggressive when it comes to negotiating with suppliers, a group over whom Wal-Mart typically has substantial pricing power. That’s helped fuel better-than-average margins for Wal-Mart, and kept shoppers flooding the firm’s big box locations for bargains. But competition remains fierce domestically, and international stores (located in 26 countries) have been a drag on performance for a decade. Margins may have to come down if Wal-Mart wants to avoid atrophying share in its core U.S. market.

Still, scale is a major advantage for the Bentonville, Arkansas-based company. The firm has the footprint to spread centralized costs across thousands of stores in order to limit the impact of things like advertising and executive pay on the income statement. And Wal-Mart’s pricing power should continue to be a big boon, particularly when dealing with the many suppliers that count WMT as their biggest customer.

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So far, hedge funds picked up 1.51 million shares of the retailer, ramping up their exposure by almost 20%.

Wal-Mart is also one of Warren Buffett's holdings.

Procter & Gamble

Another prototypical consumer stock is Procter & Gamble (PG). The $182 billion is one of the world’s biggest manufacturers of consumer products. Brands include everything from Tide detergent to Charmin toilet paper and Cover Girl cosmetics. All told, the firm owns 25 brands that each generate at least $1 billion in annual sales, an impressive feat.

With a big footprint, Procter is working hard to trim down its silhouette. The firm plans on cutting $10 billion in costs over the next few years, a move that would materially impact its margins and cash generation ability. Cash is one thing that Procter & Gamble is able to generate in spades: last year, the firm earned $13.3 billion in cold hard cash from its operations, leaving it with ample dry powder to return to shareholders via its 3.37% dividend yield.

Oversized international exposure has been a drag on earnings for PG. Because the firm makes 60% of its sales overseas and then has to convert its performance into dollars for financial reporting, the strength of the greenback in the last few years has been a big negative. Still, I think that the strong dollar is more a medium-term anomaly than a new normal. PG’s international exposure should provide a tailwind down the road.

Early-filing hedge funds picked up 3.84 million shares of PG in the second quarter, ramping up their exposure to the blue chip by almost 25%.

I also featured Procter & Gamble, another of Warren Buffett's holdings, in “5 Rocket Stocks Worth Buying This Week.”

Archer-Daniels Midland

I wouldn’t exactly call Archer-Daniels Midland (ADM) a consumer stock -- after all, its direct customers aren’t consumers, and you won’t find the ADM logo on any consumers’ shelves. Still, this firm’s exposure to consumer whims is huge, and as a result, it’s classified as a consumer stock along with the rest of them.

ADM is one of the world’s biggest agricultural commodity producers. The firm takes raw soft commodities such as oilseed and wheat as inputs and spits out processed products like vegetable oil to flour on the other side. ADM is as tied in to global agricultural consumption as a company can get: The firm has more than 300 locations spread across the world, resulting in a network that can get cheaper access to commodities and provide finished products with fewer transportation costs factored in.

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That scale also means that ADM’s trading desks are able to capture arbitrage opportunities that less tied-in rivals (or financial firms) can’t.

While huge commodity exposure and paper-thin margins make ADM the least-attractive name on the list in my view, hedge funds have been snapping up shares. So far, they’ve picked up 5.56 million shares of ADM, ramping up their holdings by almost a third.

Dean Foods

Dean Foods (DF), on the other hand, is a food processing stock that’s showing some stellar performance in 2012. So far this year, shares of the $3 billion company have rallied 47%. Dean is the biggest dairy processor and distributor in the country, with more than 50 brands and a private label business providing milk products under customers’ marques.

Dairy is a fragmented business, and Dean Foods is the biggest name in town. Because the firm is so large, management has decided to unlock some shareholder value by spinning off a portion of its premium division, WhiteWave-Alpro, which owns popular brands like Horizon Organic and Silk soymilk. The unit’s fast growth should help DF collect a high multiple in an IPO scenario, generating ample cash that the firm plans to use to decrease its debt load.

Relative strength has been stellar for Dean in 2012, a positive factor that statistically tends to continue to be a boost to shares. Early-filing hedge funds have been working to take advantage of that tailwind, more than doubling their ownership by buying 7.02 million shares of Dean Foods.

Dean Foods was one of the 10 Best-Performing S&P 500 Stocks in the Second Quarter.

Kimberly-Clark

Tissue and paper towel maker Kimberly-Clark (KMB) owns more than a few household name brands itself, including Kleenex, Scott and Huggies. The firm is one of the biggest names in consumer health and hygiene products, selling the consumable items that consumers need to keep stocked-up in their homes.

Unfortunately for KMB, when times get tough consumers tend to stock up the off-brand competitors. That means that Kleenex tissues often get traded down for store brand tissues, a product that consumers are more willing to switch to due to comparatively small differences between the two. KMB has been working to combat that poor stickiness by offering more differentiation between its offerings and the bargain brands. That’s helped plug the holes in its sales, but ultimately, lower input costs are the critical factor that’s been giving Kimberly-Clark breathing room on its income statement in 2012.

With net margins pushing back up towards double-digits again, this stock is throwing off mountains of cash and a hefty dividend payout that currently yields 3.6%. In turn, hedge funds ramped up their holdings of KMB by 25% in the second quarter, picking up 1.11 million shares of the firm.

Like most of the names that made this list, Kimberly-Clark is a defensive income-paying stock that’s a solid core holding for investors in this market.

To see these stocks in action, check out the at Hedge Funds’ Favorite Consumer Stocks Q2 portfolio on Stockpickr.



 

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-- Written by Jonas Elmerraji in Baltimore.

 

At the time of publication, author had no positions in stocks mentioned.

 

Jonas Elmerraji, based out of Baltimore, is the editor and portfolio manager of the Rhino Stock Report, a free investment advisory that returned 15% in 2008. He is a contributor to numerous financial outlets, including Forbes and Investopedia, and has been featured in Investor's Business Daily, in Consumer's Digest and on MSNBC.com.